[pic] | COMMISSION OF THE EUROPEAN COMMUNITIES |

Brussels, 10.7.2007

COM(2007) 361 final

2007/0143 (COD)

Proposal for a

DIRECTIVE OF THE EUROPEAN PARLIAMENT AND OF THE COUNCIL

on the taking-up and pursuit of the business of Insurance and Reinsurance SOLVENCY II

(presented by the Commission){SEC(2007) 870}{SEC(2007) 871}

EXPLANATORY MEMORANDUM

1. GENERAL COMMENTS

The economic and social importance of (re)insurance is such that intervention by public authorities, in the form of prudential supervision, is generally accepted to be necessary. Insurers do not only provide protection against future events that may result in a loss; they also channel household savings into the financial markets and into the real economy.

Insurers and reinsurers must meet certain solvency requirements to ensure that they can deliver on their promises to policyholders. The present solvency rules are outdated. They are not risk sensitive, they leave too much scope to Member States for national variations, they do not properly deal with group supervision and they have meanwhile been superseded by industry, international and cross-sectoral developments. This is the reason why a new solvency regime, called Solvency II, which fully reflects the latest developments in prudential supervision, actuarial science and risk management and which allows for updates in the future is necessary.

The Solvency II project is one of the main outstanding items from the Financial Services Action Plan (1999-2005). Solvency I raised the minimum guarantee fund in 2002 but was just a stop-gap measure, needed to improve policyholder protection whilst a more fundamental reform project was undertaken. Solvency II is the result of this process, proposing a wider revision of the financial position of (re)insurance undertakings.

Following the Commission's Better Regulation and Simplification agendas, the revision of the present solvency regime has been used as an occasion to recast 13 (re)insurance Directives into one single document in which the new solvency rules have been integrated.

2. CONSULTATION OF STAKEHOLDERS AND INTERESTED PARTIES

a) Consultation of stakeholders and interested parties

Throughout the project the Commission Services have maintained close contact with interested parties. The Commission Solvency Expert Working Group, composed of Member State experts, has met 3 to 5 times a year to discuss Solvency II since the project was started in 2004.

The Committee of European Insurance and Occupational Pensions Supervisors (CEIOPS) has been an important source of technical expertise for the Solvency II project. They advised the Commission in the design of the new solvency regime and organised a number of quantitative impact studies. Before sending its advice to the Commission, CEIOPS publicly consulted on its draft advice. Its contribution in the project has been substantial, and its involvement will also be needed later on in the process.

In June 2006, DG MARKT organised a public hearing which drew 191 participants. In addition, the Commission Services ran an online public questionnaire published on "Your Voice in Europe" which attracted 147 responses. DG MARKT also sent a detailed questionnaire to 58 undertakings from across Europe, and this was followed up by face-to-face interviews with a number of those undertakings (mainly small or medium-sized).

A number of organisations were asked to help the Commission in assessing the potential impact of the new solvency regime: the European Central Bank (financial stability), the (re)insurance (CEA/AISAM/ACME) industry (insurance products and markets), FIN-USE (consumers) and CEIOPS (supervisory authorities). In addition DG ECFIN prepared a report on the impact of Solvency II on macro-economy.

b) Impact Assessment

The analysis conducted and the feedback received from stakeholders and interested parties confirm that the introduction of a new economic risk-based solvency regime, making full use of the Lamfalussy architecture, is the most effective and efficient means to meet the general objectives of the Solvency II project. Namely, to deepen the integration of the EU (re)insurance market, enhance protection of policyholders and beneficiaries, to improve the international competitiveness of EU insurers and reinsurers, and to promote better regulation.

A system based on sound economic valuation principles will reveal the true financial position of insurers, increasing transparency and confidence in the whole sector. Introducing risk-based regulatory requirements will ensure that a fair balance is struck between strong policyholder protection on the one hand and reasonable costs for insurers on the other.

In particular, capital requirements will reflect the specific risk-profile of each (re)insurance undertaking. Insurers that manage their risks well - because they have rigorous policies, use appropriate risk-mitigation techniques, or diversify their activities - will be rewarded and allowed to hold less capital than under the current EU regime. On the other hand, poorly managed insurers or insurers with a larger risk appetite will be asked to hold more capital in order to ensure that policyholder claims will be met when they fall due.

Solvency II will result in much greater emphasis being placed on sound risk management and robust internal controls. The responsibility for an insurers' financial soundness will be pushed back firmly to its management, where it belongs. Insurers will be given more freedom – i.e. they will be required to meet sound principles rather than arbitrary rules. Regulatory requirements and industry practice will be aligned and insurers will be rewarded for introducing risk and capital management systems that best fit their needs and overall risk profile. In return, they will be subject to strengthened supervisory review. The new regime will also enhance transparency and public disclosure. Insurers applying best practice will be further rewarded by investors, market participants and consumers.

However, the introduction of a new economic risk based approach may be accompanied by some short-term side–effects. Solvency II may result in a reduction of coverage for some types of insurance, as risks will receive a regulatory treatment in line with their true economic cost (for example traditional financial guarantees embedded in long-term saving products). Similarly, increased transparency may result in a reduction in cross-subsidization between business lines (e.g. from motor insurance to health and accident) and increase prices in certain areas or for specific categories of higher risk policyholders. While this is optimal from the perspective of the creation of an efficient and transparent insurance sector, the potential social impact of any resulting changes in the behaviour of insurers will need to be carefully monitored and debated in order to ensure that long-term sustainable solutions are found to tackle any issues that arise following the introduction of the new solvency regime. Insurers and national authorities should be encouraged to consider whether any such changes are likely to occur and if so how any resulting negative impacts can be mitigated. Finally, whereas the impact of Solvency II on life insurers' investment behaviour is not expected to be significant, it cannot be excluded that non-life insurers will increase their investment in bonds at the expense of equity. However, non-life insurers' holdings in equity only account for a limited share of the EU-25 securities capitalisation (4%) and a smooth transition to the new asset allocation is expected.

3. LEGISLATIVE APPROACH AND LEGAL BASIS

a) Legislative approach

The following 13 Directives in the area of life and non-life insurance, reinsurance, insurance groups and winding up were recast into a single text at the occasion of the new Solvency II amendments to be made:

- Council Directive 64/225/EEC of 25 February 1964 on the abolition of restrictions on freedom of establishment and freedom to provide services in respect of reinsurance and retrocession[1];

- First Council Directive 73/239/EEC of 24 July 1973 on the coordination of laws, regulations and administrative provisions relating to the taking up and pursuit of the business of direct insurance other than life assurance[2];

- Council Directive 73/240/EEC of 24 July 1973 abolishing restrictions on freedom of establishment in the business of direct insurance other than life assurance[3];

- Council Directive 76/580/EEC of 29 June 1976 amending Directive 73/239/EEC on the coordination of laws, regulations and administrative provisions relating to the taking up and pursuit of the business of direct insurance other than life assurance[4];

- Council Directive 78/473/EEC of 30 May 1978 on the coordination of laws, regulations and administrative provisions relating to Community co-insurance[5];

- Council Directive 84/641/EEC of 10 December 1984 amending, particularly as regards tourist assistance, the First Directive 73/239/EEC on the coordination of laws, regulations and administrative provisions relating to the taking-up and pursuit of the business of direct insurance other than life assurance[6];

- Council Directive 87/344/EEC of 22 June 1987 on the coordination of laws, regulations and administrative provisions relating to legal expenses insurance[7];

- Second Council Directive 88/357/EEC of 22 June 1988 on the coordination of laws, regulations and administrative provisions relating to direct insurance other than life assurance and laying down provisions to facilitate the effective exercise of freedom to provide services and amending Directive 73/239/EEC[8];

- Council Directive 92/49/EEC of 18 June 1992 on the coordination of laws, regulations and administrative provisions relating to direct insurance other than life assurance (third non-life insurance Directive)[9];

- Directive 98/78/EC of the European Parliament and of the Council of 27 October 1998 on the supplementary supervision of insurance undertakings in an insurance group[10];

- Directive 2001/17/EC of the European Parliament and of the Council of 19 March 2001 on the reorganisation and winding-up of insurance undertakings[11];

- Directive 2002/83/EC of the European Parliament and of the Council of 5 November 2002 concerning life assurance[12];

- Directive 2005/68/EC of the European Parliament and of the Council of 16 November 2005 on reinsurance[13].

As a complete rewrite of the existing Directives would have gone beyond a recast, the recast follows the structure of the existing (re)insurance Directives. The new Solvency II provisions are therefore introduced in different Chapters and Titles of the draft Directive and are shown in grey character. No substantive changes have been made to the existing Directives that have been recast except for those changes that are necessary in order to introduce a new solvency regime.

The proposal applies the ‘re-casting technique’ (Inter-institutional Agreement 2002/C 77/01) which enables substantive amendments to existing legislation without a self-standing amending directive. The recast reduces complexity and makes the EU legislation more accessible and comprehensible. Amendments of a non-substantive nature have been made to a large number of provisions of the existing Directives in order to improve the drafting and readability. Articles or parts of articles which have become obsolete have been deleted. All changes are clearly marked in the text.

The new solvency provisions are principles based and follow the 4 level structure of the Lamfalussy financial services architecture. The principles will be further developed through implementing measures. The new Lamfalussy architecture will enable the new solvency regime to keep pace with future market and technological developments as well as international developments in accounting and (re)insurance regulation.

b) Legal Basis

The proposal is based on Articles 47(2) and 55 of the Treaty, which is the legal basis to adopt Community measures aimed at achieving an internal market in financial services. The chosen instrument is a Directive as this is the most appropriate legal instrument to achieve the objectives. The proposed new provisions do not go beyond what it is necessary to achieve the objectives pursued.

4. SCOPE OF APPLICATION

The scope of application of the present Directives has not been changed. The proposal therefore applies to all life and non-life insurance undertakings and reinsurance undertakings. However, the present exclusion of small mutual undertakings has been extended to all small insurance undertakings defined in Article 4, regardless of their legal form. The Directive does not apply to pension funds covered by Directive 2003/41/EC of the European Parliament and of the Council of 3 June 2003[14] on the activities and supervision of institutions for occupational retirement provision. A review of this Directive will take place in 2008. At that time, the Commission will examine whether and how suitable solvency requirements can or should be developed for pension funds. Similarly the Directive does not change the regime applicable to financial conglomerates. However, if any issues are identified they will be addressed in the course of the review of the Financial Conglomerates Directive (2002/87/EC) which will take place in 2008.

5. COMMENTS ON THE ARTICLES

The comments only relate to those Articles which are new or which have changed as a result of the introduction of the new solvency rules.

a) Qualitative Requirements and supervision

The qualitative requirements and rules on supervision applicable to (re)insurance undertakings ("Pillar II" of the Solvency II framework) are laid down in 2 sections, Supervisory Authorities and General Rules and System of Governance.

Supervisory Authorities and General Rules - Articles 27 to 38

Main objective of supervision – Article 27

The main objective of (re)insurance regulation and supervision is adequate policyholder protection. Other objectives such as financial stability and fair and stable markets should also be taken into account but should not undermine that main objective.

General principles of supervision – Article 28

Supervision shall be based on a prospective and risk-oriented approach. Solvency II therefore adopts an economic risk-based approach which allows for a system that reflects the true risk profile of (re)insurance undertakings. That system should rely on sound economic principles and make optimal use of the information provided by financial markets.

Particular care has been taken to ensure that the new solvency regime is not too burdensome for small and medium-sized (re)insurance undertakings. Importance is therefore attached to the principle of proportionality, which applies to all requirements of this Directive but which is particularly relevant for the application of the quantitative and qualitative requirements of the solvency regime and the rules on supervision. It will be further specified in the implementing measures.

Transparency and accountability – Article 30

Transparency and accountability contributes to the legitimacy and integrity of the supervisory authorities and the credibility of the system of supervision. This Article therefore lays down that supervisory authorities shall conduct their tasks in a transparent and accountable manner. Disclosures foster transparency and allow a meaningful comparison of the approaches adopted by Member States. An important aspect of transparency and accountability is to provide for transparent procedures regarding the appointment and dismissal of the members of the board or managing body of the supervisory authorities.

Supervisory powers – Article 34

In order to ensure the efficiency of supervision, the supervisory authorities must be fully empowered to carry out their tasks. Article 34 therefore sets out that Member States must ensure that supervisory authorities have the power to take any measure necessary to ensure that undertakings comply with the regulatory requirements set by this Directive as well as to prevent and remedy any irregularities. In this context, it is particularly important that supervisory powers are also available with regard to outsourced and sub-outsourced activities. All supervisory powers shall be applied in a timely and proportionate manner.

In order to ensure effective supervision, it is essential that supervision is carried out both on-site and off-site; supervisory authorities are therefore given the power to conduct on-sight inspections at the premises of an insurer or reinsurer.

Supervisory Review Process – Article 36

A failure to comply with the qualitative and quantitative requirements may have severe consequences for the financial soundness of an insurer or reinsurer. The supervisory review therefore aims to identify institutions with financial, organisational or other features susceptible to producing a higher risk profile.

Under the Supervisory Review Process (SRP), the supervisory authorities review and evaluate the strategies, processes and reporting procedures established by insurers and reinsurers to comply with this Directive as well as the risks the undertaking faces or may face and its ability to assess those risks. The review also comprises an assessment of the adequacy of the undertakings' methods and practices to identify possible events or future changes in economic conditions that could have unfavourable effects on its overall financial standing. In order to ensure the efficiency of the SRP, it is important that supervisory authorities are given the power to remedy the weaknesses and deficiencies identified in the supervisory review including a follow-up process of their findings.

It is moreover essential that supervisory authorities have appropriate monitoring tools that enable deteriorating financial conditions to be identified and remedied. The results of the SRP are very useful for the supervisory authorities in prioritising future work, to ensure an appropriate degree of consistency in supervisory approaches between supervisory authorities and to provide feedback to the undertaking.

Capital add-ons – Article 37

The starting point for the adequacy of the quantitative requirements in the (re)insurance sector is the solvency capital requirement. Supervisory authorities may therefore require (re)insurance undertakings only under strictly defined exceptional circumstances to have more capital following the Supervisory Review Process. Even though the standard formula aims at capturing the risk profile of most (re)insurance undertakings in the Community, there may be some cases where the standardised approach might not entirely reflect the very specific risk profile of an undertaking.

In case of material deficiencies in the full or partial internal model (see below point e) or material governance failures it is essential that the supervisory authorities ensure that the undertaking concerned makes all efforts to remedy the deficiencies that led to the imposition of the capital add-on for the sake of policyholder protection. The supervisory authority is obliged to examine the undertaking's progress in addressing its deficiencies at least once a year. Only in case the deviation of such an undertaking's risk profile is material and the development of a partial or full internal model is inefficient, the capital add-on may have a permanent character.

The more harmonised and economic approach adopted for the (re)insurance sector as compared to the Capital Requirements Directive duly justifies the more harmonised approach of capital increases.

Responsibility of the administrative or management body – Article 40

(Re)insurance undertakings will be required to meet principles rather than rules, which puts more responsibility on management than is presently the case.

The Directive states clearly that the administrative or management body of the (re)insurance undertaking has the ultimate responsibility for the undertaking's compliance with this Directive.

System of Governance - Articles 41 to 49

Governance system and general requirements - Article 41

Consistency of governance requirements across the banking, securities and (re)insurance sectors is essential to ensure cross-sectoral consistency. The governance requirements set out in this Directive aim at achieving this objective.

Robust governance requirements are a pre-requisite for an efficient solvency system. Some risks may only be addressed through governance requirements rather than by setting quantitative requirements. A robust governance system is hence of key importance for the adequate management of the insurer and critical to the effectiveness of the supervisory system.

The governance system includes compliance with the requirements on fit and proper, risk management, the own risk and solvency assessment, internal control, internal audit, the actuarial function and outsourcing. The implementing measures on the governance requirements will specify the proportionality principle.

The identification of governance functions in the Directive should help undertakings in deciding how to implement the governance system. A function is an administrative capacity to undertake particular tasks. The identification of a particular function does not prevent the undertaking from freely deciding how to organise this function in practice unless this is otherwise specified in this Directive. This should not lead to unduly burdensome requirements because account should be taken of the nature, scale and complexity of the operations of the undertaking. The governance functions can therefore be staffed by own staff or can rely on advice from outside experts or can be outsourced to experts within the limits set by this Directive. Furthermore, in smaller and less complex undertakings, more than one function can be carried out by one person or organisational unit.

In order to make the governance system work well, undertakings are required to have written policies in place which clearly set out how they deal with internal control, internal audit, risk management and, where relevant, with outsourcing. It is essential that the administrative or management body is actively involved in the governance system. The written policies should therefore be approved by the administrative or management body and be revised at least annually or before any significant change is implemented in the system. The amendment of the policies prior to the system change is essential because the undertaking would otherwise already be in non-compliance with its internal strategies and processes. It is the role of the supervisory authority in the SRP to review and evaluate the governance system.

Own Risk and Solvency Assessment (ORSA) – Article 44

As part of their risk management system, all (re)insurance undertakings should have, as an integral part of their business strategy, a regular practice of assessing their overall solvency needs with a view to their specific risk profile.

The ORSA has a twofold nature. It is an internal assessment process within the undertaking and is as such embedded in the strategic decisions of the undertaking. It is also a supervisory tool for the supervisory authorities, which must be informed about the results of the own risk and solvency assessment of the undertaking.

The ORSA does not require an undertaking to develop or apply a full or partial internal model. However, if the undertaking already uses an approved full or partial internal model for the calculation of the SCR, the output of the model should be used in the ORSA. The ORSA does not create a third solvency capital requirement. The ORSA should not be overly burdensome on small or less complex undertakings. The supervisory authority reviews the own risk and solvency assessment as part of the supervisory review process of the undertaking. The results of each ORSA conducted shall be reported to the supervisory authority as part of the information to be provided for supervisory purposes under Article 35.

Outsourcing – Articles 38 and 48

As outsourcing is becoming more and more relevant, it is important to adopt a more consistent approach in this area. In order to ensure effective supervision of outsourced activities, it is essential that the supervisory authorities of the outsourcing undertaking have a right to access all relevant data held by the outsourcing service provider as well as the right to conduct on-site inspections of the outsourced activity at the premises of the outsourcing service provider, regardless of whether the latter is a regulated or unregulated entity. In case the activity is outsourced to a service provider in a third country, it is necessary that the supervisory authority of the outsourcing undertaking has the right to access all relevant data held by the outsourcing service provider regardless of whether the latter is a regulated or unregulated entity. Outsourcing also comprises sub-outsourcing.

One way of achieving this, especially if the service provider is an unregulated entity, is paying particular attention to the contract between the outsourcing undertaking and the outsourcing service provider. Supervisory authorities must be informed in an adequate and timely manner prior to the outsourcing of important activities or to any subsequent material changes therein.

The requirements laid down in this Directive take into account the work of the Joint Forum and are consistent with the current rules and practices in the banking sector and the Markets in Financial Instruments Directive (2004/39/EC) and its application to credit institutions.

b) Supervisory reporting and public disclosure

Supervisory reporting and public disclosure constitute "Pillar III" of the Solvency II framework.

Information to be provided for supervisory purposes - Article 35

The proposal essentially maintains the current philosophy of the acquis, imposing on undertakings a general requirement to submit any information necessary for the purposes of supervision. However, in line with the Lamfalussy approach, the proposal introduces a number of key principles with which supervisory reporting must comply and allows the adoption of implementing measures with a view to ensuring convergence as appropriate.

Public Disclosure - Articles 50 to 55

The proposal requires undertakings to disclose annually a report covering essential and concise information on their solvency and financial condition. An exception is possible for individual capital add-ons for a transitional period. Undertakings are required to update the information disclosed where appropriate (specific provisions address cases of non compliance with Minimum Capital Requirement or Ssolcency Capital Requirement), and they are allowed to disclose additional information on a voluntary basis. Undertakings are required to have a policy on public disclosure, and must obtain approval from their administrative or management body on the solvency and financial condition report before publication. Finally, the proposal allows the adoption of implementing measures with a view to ensuring convergence as appropriate.

c) Promotion of supervisory convergence – Article 69

The Financial Service Committee identified the fostering of supervisory convergence of supervisory practices as one of the major challenges in the years to come. Even though a common regulatory framework is the basis a true level playing field can only be achieved through more consistent and common decision-making and enforcement practices among supervisors. Supervisory convergence includes in particular common and uniform day-to-day application of Community legislation and enhancing day-to-day consistent supervision and enforcement of the Single Market. Peer reviews and mediation mechanisms can play an important role in the fostering of supervisory convergence.

CEIOPS has a particular role in contributing to the consistent application of this Directive and to the convergence of supervisory practices throughout the Community. This Article therefore sets out that Member States must take the necessary measures to ensure that the supervisory authorities actively engage themselves in the activities of CEIOPS.

d) Quantitative requirements

The quantitative requirements applicable to (re)insurance undertakings ("Pillar I" of the Solvency II framework) are laid down in six sections: valuation of assets and liabilities, technical provisions, own funds, Solvency Capital Requirement, Minimum Capital Requirement, and investments. The Pillar I requirements are based on an economic total balance sheet approach. This approach relies on an appraisal of the whole balance-sheet of insurance and reinsurance undertakings, on an integrated basis, where assets and liabilities are valued consistently. Such an approach implies that the amount of available financial resources of insurance and reinsurance undertakings should cover its overall financial requirements, i.e. the sum of un-subordinated liabilities and capital requirements. As a consequence of this approach, eligible own funds (see below) must be higher than the Solvency Capital Requirement.

Valuation of assets and liabilities – Article 73

Article 73 introduces valuation standards for all assets and liabilities, based upon the current IFRS definition of fair value. Implementing measures will be developed setting out how the fair value of specific balance-sheet items should be calculated, in order to ensure that these items are valued consistently across all Member States. With respect to liabilities, valuation standards do not take account of own credit standing, whilst with respect to assets, these standards take account of current credit and liquidity characteristics.

Technical provisions – Articles 74 to 84

Technical provisions need to be established in order for the undertaking to fulfil its (re)insurance obligations towards policyholders and beneficiaries. Their calculation will be based on the general provisions set out in Article 74:

- In particular, the calculation of technical provisions will be based on their current exit value. The current exit value reflects the amount an insurance or reinsurance undertaking would expect to have to pay today if it transferred its contractual rights and obligations immediately to another undertaking. The use of current exit value should not be intended to imply that an (re)insurance undertaking could, would or should actually transfer those obligations.

- The calculation of technical provisions must be market-consistent and undertaking-specific information will only be used in the calculation of technical provisions in so far as that information enables (re)insurance undertakings to better capture the characteristics of the underlying insurance portfolio.

Articles 75 to 78 and 80 to 84 describe the calculation of technical provisions. They will be calculated as the sum of a best estimate and a risk margin, except in the case of hedgeable risks arising from (re)insurance obligations (see below):

- The best estimate corresponds to the expected present value of future cash flows, taking into account all the cash in and out flows (adjusted for inflation), required to settle the (re)insurance obligations over their lifetime, including all expenses, future discretionary bonuses, embedded financial guarantees and contractual options. The calculation of the best estimate is to be based on sound actuarial techniques and good quality data and regularly checked against actual experience.

- The risk margin ensures that the overall value of the technical provisions is equivalent to the amount (re)insurance undertakings would expect to have to pay today if it transferred its contractual rights and obligations immediately to another undertaking; or alternatively, the additional cost, above the best estimate, of providing capital to support the (re)insurance obligations over the lifetime of the portfolio.

With respect to hedgeable risks – i.e. a risk that can be effectively neutralised by buying or selling financial instruments – the value of technical provisions is calculated directly, as a whole, and derived using the values of those financial instruments (see Article 75(4)).

With respect to non-hedgeable risks, the risk margin is calculated using the so-called cost-of-capital method (see Article 75(5)). In this case, the cost-of-capital rate used is the same for all undertakings (e.g. fixed percentage) and corresponds to the spread above the risk-free interest rate that a BBB-rated (re)insurance undertaking would be charged to raise eligible own funds.

Own funds –Articles 85 to 98

Own funds correspond to a (re)insurance undertakings' available financial resources which can serve as a buffer against risks and absorb financial losses, where necessary. The determination of the amounts of own funds eligible to cover the two capital requirements is based on a three-step process. Each step corresponds to a subsection: determination of own funds, classification of own funds, eligibility of own funds.

In a first step , the amounts of available own funds must be identified. Own funds are the sum of:

- items on the balance-sheet, or "basic own fund items" (see Article 86);

- items not on the balance-sheet, or "ancillary own fund items" (see Article 87).

Basic own funds comprise the economic capital (i.e. the excess of assets over liabilities, valued in accordance with Sections 1 and 2) and subordinated liabilities (as those liabilities can serve as capital, for instance in the case of winding-up).

Ancillary own funds comprise commitments that undertakings can call upon in order to increase their financial resources, such as members' calls and letters of credit. As those ancillary own funds do not fall under the valuation standards provided for in Sections 1 and 2, the determination of their amounts is subject to prior supervisory approval.

In a second step , as own fund items possess different qualities and provide for different levels of absorption of losses, those own fund items will be classified into three tiers, depending on their nature and the extent to which they meet five key criteria (i.e. subordination, loss-absorbency, permanence, perpetuality and absence of servicing costs), as set out in Article 92.

- The classification of own funds into tiers relies on qualitative criteria to be further specified through implementing measures (see Article 96); however, in order to facilitate that classification, a list of pre-classified items will also be laid down in those implementing measures.

Nature Quality | On the balance-sheet (basic own funds) | Off the balance-sheet (ancillary own funds) |

High | Tier 1 | Tier 2 |

Medium | Tier 2 | Tier 3 |

Low | Tier 3 | − |

In a third step , as Tier 2 and Tier 3 items do not provide for full absorption of any losses in all circumstances, it seems necessary to limit their recognition for supervisory purposes. As set out in Article 97, two sets of limits apply to available own funds, in order to determine the amounts eligible for supervisory purposes:

- With respect to the Solvency Capital Requirement, the proportion of Tier 1 in the eligible own funds should reach at least 1/3, and the proportion of Tier 3 should be no higher than 1/3.

- With respect to the Minimum Capital Requirement, ancillary own fund items are not eligible, and the proportion of eligible Tier 2 items should be limited to ½.

Solvency Capital Requirement – Articles 99 to 124

Section 4 on the Solvency Capital Requirement is divided in three parts: the general presentation of that capital requirement, the Solvency Capital Requirement standard formula, and the use of internal models for solvency purposes.

General provisions for the Solvency Capital Requirement, using the standard formula or an internal model

The Solvency Capital Requirement corresponds to the economic capital a (re)insurance undertaking needs to hold in order to limit the probability of ruin to 0.5%, i.e. ruin would occur once every 200 years (see Article 100). The Solvency Capital Requirement is calculated using Value-at-Risk techniques, either in accordance with the standard formula, or using an internal model: all potential losses, including adverse revaluation of assets and liabilities, over the next 12 months are to be assessed. The Solvency Capital Requirement reflects the true risk profile of the undertaking, taking account of all quantifiable risks, as well as the net impact of risk mitigation techniques.

The Solvency Capital Requirement is to be calculated at least once a year, monitored on a continuous basis, and recalculated as soon as the risk profile of the undertaking deviates significantly; the Solvency Capital Requirement is to be covered by an equivalent amount of eligible own funds (see Article 99).

Solvency Capital Requirement standard formula

Articles 102 to 108 describe the objectives, architecture and overall calibration of the Solvency Capital Requirement standard formula. The "modular" architecture, based on linear aggregation techniques, is further specified in Annex IV of the Directive. The risks captured in the various modules and sub-modules of the standard formula are defined in Articles 13, 103 and 104. The detailed specifications of those modules and sub-modules will be adopted through implementing measures, as they are likely to evolve over time.

The Solvency Capital Requirement standard formula aims at achieving the right balance between risk-sensitivity and practicality. It allows both for the use of undertaking-specific parameters, where appropriate (see Article 103(7)), and standardised simplifications for SMEs (see Article 107).

As the new valuation standards take due account of credit and liquidity characteristics of assets, as the Solvency Capital Requirement captures all quantifiable risks, and as all investments are subject to the "prudent person" principle, quantitative investment limits and asset eligibility criteria will not be maintained. However, in the light of market developments, if new risks emerge which are not covered by the Solvency Capital Requirement standard formula, Article 108(2) enables the Commission to adopt temporary implementing measures laying down investment limits and asset eligibility criteria whilst the formula is being updated.

Internal models

Articles 109 to 124 describe the requirements applying to (re)insurance undertakings using or wishing to use a full or partial internal model in the calculation of the Solvency Capital Requirement. Before approval by the supervisory authorities is given to use an internal model, (re)insurance undertakings must submit an application (see Article 109) approved by the administrative or management body of the undertaking (see Article 113), demonstrating that they meet the use test, statistical quality standards, calibration standards, validation standards, and documentation standards (see Articles 117 to 122). Supervisory authorities must decide whether to accept or reject the application within six months of receipt of a complete application from an (re)insurance undertaking.

With respect to the use of partial internal models additional requirements are introduced that are designed to prevent cherry-picking by (re)insurance undertakings (see Article 110). In addition, Article 111 enables the Commission to adopt implementing measures adapting the standards, set out in Articles 117 to 122, with respect to partial internal models in order to take account of the limited scope of those models.

Article 116 gives supervisory authorities the power to require an (re)insurance undertaking calculating the Solvency Capital Requirement using the standard formula, to develop a partial or full internal model in the event that the Solvency Capital Requirement standard formula does not accurately capture the risk profile of that undertaking.

Minimum Capital Requirement – Articles 125 to 128

The Minimum Capital Requirementrepresents a level of capital below which policyholders' interests would be seriously endangered if the undertaking were allowed to continue to operate. In the event that the Minimum Capital Requirement is breached ultimate supervisory action is triggered, i.e. authorisation is withdrawn (see Articles 126 and 136). Undertakings are therefore required to hold eligible basic own funds to cover the Minimum Capital Requirement (see Article 125). As ultimate supervisory action may require authorisation by national courts, the Minimum Capital Requirement needs to be calculated quarterly, in accordance with a simple and robust formula, on the basis of auditable data.

Article 126 on the specific design and calibration of the Minimum Capital Requirement includes a short list of general principles. Pending the results of QIS3, an open approach has been adopted, as no final decision has been reached regarding the Minimum Capital Requirement.

In particular, the text enables the two following approaches to be tested:

- the Minimum Capital Requirement calculated using a simplified version of the standard formula (modular approach) taking account of life underwriting risk, non life underwriting risk and market risk, and calibrated to a one-year 90% Value-at-Risk;

- Minimum Capital Requirement calculated as a percentage of the Solvency Capital Requirement (compact approach), calibrated to 1/3 of the Solvency Capital Requirement.

For example, Article 126(1)c enables the Minimum Capital Requirement to be calibrated to a confidence level between 80% (as 1/3 of an Solvency Capital Requirement calibrated to a 99.5% VaR is equivalent to a 80% VaR, assuming a normal distribution) and 90% (the level used in the modular approach being tested).

So as to smooth the transition to the new regime (see Article 128), (re)insurance undertakings that comply with Solvency I at the date of entry into force of this Directive, but do not comply with the Minimum Capital Requirement, have one year in order to bring themselves into compliance with the new regime.

Investments – Articles 129 to 132

All investments held by (re)insurance undertakings (i.e. assets covering technical provisions, plus assets covering Solvency Capital Requirement and free assets) must be invested, managed and monitored in accordance with the "prudent person" principle laid down in Article 129. The prudent person principle requires (re)insurance undertakings to invest assets in the best interest of policyholders, adequately match investments and liabilities, and pay due attention to financial risks, such as liquidity and concentration risk.

e) Group Supervision - Articles 219 to 277

Introduction

The way (re)insurance groups will be supervised is a crucial factor for the success of the single market and the Solvency II regime. The proposal therefore seeks to find appropriate ways of streamlining the supervision of (re)insurance groups in the EU.

Main Improvements Applicable to All (Re)insurance Groups

- Group supervisor – identification and appointment : the proposal introduces the concept of "group supervisor". For each group, a single authority will be appointed with concrete coordination and decision powers. The criteria retained are inspired by the Financial Conglomerates Directive, but the proposal introduces more flexibility where appropriate.

- Group supervisor – rights and duties : the group supervisor is given primary responsibility for all key aspects of group supervision (group solvency, intragroup transactions, risk concentration, risk management and internal control). Such responsibility must be exercised in cooperation and consultation with local supervisors. In addition, for each group, coordination arrangements must be established between all supervisors involved.

- Other key measures to ensure efficient group supervision : the proposal introduces, in line with the Financial Conglomerates Directive, a complete set of provisions obliging all supervisors involved to exchange information automatically (essential information) or on request (relevant information), to consult each other prior to important decisions, and to handle properly requests for verification of information.

- Group solvency – choice of method : with a view to ensuring as much as possible that groups will benefit from diversification effects, the proposal expresses a strong preference for the consolidation method.

- Group solvency – group internal model : the proposal allows a group to apply for the permission to use an internal model for the calculation of the group Solvency Capital Requirement and the solo Solvency Capital Requirement of related entities. The procedure is much inspired by the Capital Requirements Directive (2006/48/EC - Article 129). CEIOPS can be consulted at the request of the parent undertaking or of any of the supervisors involved.

- Supervision of subgroups : with a view to limiting the burden for groups, the proposal essentially states a) that group supervision should normally be carried out only at the top level in the EU, and b) that Member States may allow their supervisory authorities to carry out group supervision at the top level in a Member State. In practice, this should reduce the number of levels of supervision to a maximum of 3 (EU group, national subgroups, solo entities), which is in line with the Capital Requirements Directive.

- Implementing measures : with a view to ensuring as much as possible convergence in decisions and practices of group supervisors, the proposal contains for several key provisions a reference to further implementing measures.

Additional Improvements Applicable to Groups Using Group Support

The proposal introduces an innovative regime which seeks to facilitate capital management by groups, essentially by a) allowing under certain conditions a parent undertaking to use declarations of group support to meet part of the Solvency Capital Requirement of its subsidiaries, and b) introducing derogations to some Articles on solo supervision, where appropriate. The proposal allows the adoption of implementing measures, and provides for a review of the whole system five years after the transposition of the Directive.

General Observation: Group Supervision Not only Supplementary

The current EU acquis considers group supervision as merely supplementary to solo supervision (solo supervision is carried out in the same way on all entities, whether or not they are part of a group, and group supervision is merely added to solo supervision). The proposal changes substantially that philosophy: the group text contains many provisions which will directly influence the way in which solo supervision is carried out on entities belonging to a group. With a view to reflecting explicitly that fundamental development, the word "supplementary" has been deleted from all places (including the title).

6. IMPLEMENTING MEASURES

The Directive confers implementing powers on the Commission. The cases in which implementing powers have been conferred are specifically listed in each relevant article. In exercising these implementing powers, the Commission will be assisted by the European Insurance and Occupational Pensions Committee set up by Commission Decision 2004/9/EC. The measures to be adopted by the Commission will be subject to the advisory procedure or the regulatory procedure with scrutiny laid down in Articles 3, 5(a)(1) to (4), and 7 of Decision 1999/468/EC.

The implementing measures will be used to further define the principles set out in this Directive so as to enhance harmonisation and supervisory convergence. They will be developed on the basis of mandates given by the Commission to CEIOPS and will be subject to consultation with stakeholders and to an impact assessment.

2002/83/EC (adapted)

2007/0143 (COD)

Proposal for a

DIRECTIVE …/…/EC OF THE EUROPEAN PARLIAMENT AND OF THE COUNCIL

of […]

concerning life assurance on the taking-up and pursuit of the business of Insurance and Reinsurance

(Text with EEA relevance)

THE EUROPEAN PARLIAMENT AND THE COUNCIL OF THE EUROPEAN UNION,

Having regard to the Treaty establishing the European Community, and in particular Articles 47(2) and 55 thereof,

Having regard to the proposal from the Commission[15],

Having regard to the opinion of the European Economic and Social Committee[16],

After consulting the Committee of the Regions[17],

Acting in accordance with the procedure laid down in Article 251 of the Treaty[18],

Whereas:

ò new

(1) A number of substantial changes are to be made to the First Council Directive 73/239/EEC of 24 July 1973 on the coordination of laws, regulations and administrative provisions relating to the taking up and pursuit of the business of direct insurance other than life assurance[19], Council Directive 78/473/EEC of 30 May 1978 on the coordination of laws, regulations and administrative provisions relating to Community co-insurance[20], Council Directive 87/344/EEC of 22 June 1987 on the coordination of laws, regulations and administrative provisions relating to legal expenses insurance[21], the Second Council Directive 88/357/EEC of 22 June 1988 on the coordination of laws, regulations and administrative provisions relating to direct insurance other than life assurance and laying down provisions to facilitate the effective exercise of freedom to provide services and amending Directive 73/239/EEC[22], Council Directive 92/49/EEC of 18 June 1992 on the coordination of laws, regulations and administrative provisions relating to direct insurance other than life assurance and amending Directives 73/239/EEC and 88/357/EEC (third non-life insurance Directive)[23], Directive 98/78/EC of the European Parliament and of the Council of 27 October 1998 on the supplementary supervision of insurance undertakings in an insurance group[24], Directive 2001/17/EC of the European Parliament and of the Council of 19 March 2001 on the reorganisation and winding-up of insurance undertakings[25], Directive 2002/83/EC of the European Parliament and of the Council of 5 November 2002 concerning life assurance[26] and Directive 2005/68/EC of the European Parliament and of the Council of 16 November 2005 on reinsurance and amending Council Directives 73/239/EEC, 92/49/EEC as well as Directives 98/78/EC and 2002/83/EC[27]. In the interests of clarity those Directives should be recast.

(2) In order to facilitate the taking up and pursuit of the activities of insurance and reinsurance, it is necessary to eliminate the most serious differences between the laws of the Member States as regards the rules to which insurance and reinsurance undertakings are subject. A legal framework should therefore be provided for insurance and reinsurance undertakings to conduct insurance business throughout the internal market thus making it easier insurance and reinsurance undertakings with head offices in the Community to cover commitments and risks situated therein

(3) It is in the interests of the proper functioning of the internal market that coordinated rules be established relating to the supervision of insurance groups and, with a view to the protection of creditors, to the reorganisation and winding-up proceedings in respect of insurance undertakings.

(4) It is appropriate that certain undertakings which provide insurance services are not covered by the system established by this Directive due to their size, their legal status, their nature - as being closely linked to public insurance systems- or the specific services they offer. It is further desirable to exclude certain institutions in several Member States whose business covers a very limited sector only and is restricted by law to a specific territory or to specified persons.

(5) Council Directive 72/166/EEC of 24 April 1972 on the approximation of the laws of Member States relating to insurance against civil liability in respect of the use of motor vehicles, and to the enforcement of the obligation to insure against such liability[28], the Seventh Council Directive 83/349/EEC of 13 June 1983 based on the Article 54(3)(g) of the Treaty on consolidated accounts[29], the Second Council Directive 84/5/EEC of 30 December 1983 on the approximation of the laws of the Member States relating to insurance against civil liability in respect of the use of motor vehicles[30], Directive 2004/39/EC of the European Parliament and of the Council of 21 April 2004 on markets in financial instruments amending Council Directives 85/611/EEC and 93/6/EEC and Directive 2000/12/EC of the European Parliament and of the Council and repealing Council Directive 93/22/EEC[31] and Directive 2006/48/EC of the European Parliament and of the Council of 14 June 2006 relating to the taking up and pursuit of the business of credit institutions[32] lay down general rules in the fields of accounting, motor insurance liability, financial instruments and credit institutions and provide for definitions in those areas. It is appropriate that certain of those definitions apply for the purposes of this Directive.

(6) The taking up of insurance or of reinsurance activities should be subject to prior authorisation. It is therefore necessary to lay down the conditions and the procedure for the granting of that authorisation as well as for any refusal.

(7) Since this Directive constitutes an essential instrument for the achievement of the internal market insurance and reinsurance undertakings authorised in their home Member States should be allowed to carry on, throughout the Community, any or all of their activities by establishing branches or by providing services. It is therefore appropriate to bring about such harmonisation as is necessary and sufficient to achieve the mutual recognition of authorisations and supervisory systems, and thus a single authorisation which is valid throughout the Community and which allows the supervision of an undertaking to be carried out by the home Member State.

(8) Directive 2000/26/EC of the European Parliament and of the Council of 16 May 2000 on the approximation of the laws of the Member States relating to insurance against civil liability in respect of the use of motor vehicles and amending Council Directives 73/239/EEC and 88/357/EEC (Fourth motor insurance Directive)[33] lays down rules on the appointment of claims representatives. Those rules should apply for the purposes of this Directive.

(9) Reinsurance undertakings should limit their objects to the business of reinsurance and related operations. Such a requirement should not prevent a reinsurance undertaking from carrying on activities such as the provision of statistical or actuarial advice, risk analysis or research for its clients. It may also include a holding company function and activities with respect to financial sector activities within the meaning of Article 2 (8) of Directive 2002/87/EC of the European Parliament and of the Council of 16 December 2002 on the supplementary supervision of credit institutions, insurance undertakings and investment firms in a financial conglomerate and amending Council Directives 73/239/EEC, 79/267/EEC, 92/49/EEC, 92/96/EEC, 93/6/EEC and 93/22/EEC, and Directives 98/78/EC and 2000/12/EC of the European Parliament and of the Council[34]. In any case, this requirement does not allow the carrying on of unrelated banking and financial activities.

(10) The protection of policyholders presupposes that insurance and reinsurance undertakings are subject to effective solvency requirements. In light of market developments the current system is no longer adequate. It is therefore necessary to introduce a new regulatory framework.

(11) In line with the latest developments in risk management, in the context of the International Association of Insurance Supervisors, the International Accounting Standards Board and the International Actuarial Association and with recent developments in other financial sectors an economic risk-based approach should be adopted which provides incentives for insurance and reinsurance undertakings to properly measure and manage their risks. Harmonisation should be increased by providing specific rules for the valuation of assets and liabilities, including technical provisions.

(12) The new solvency regime should not be too burdensome for small and medium-sized insurance undertakings.

(13) The main objective of insurance and reinsurance regulation and supervision is adequate policyholder protection. Financial stability and fair and stable markets are other objectives of insurance and reinsurance regulation and supervision which should also be taken into account but should not undermine the main objective.

(14) The supervisory authorities of the Member States should therefore have at their disposal all means necessary to ensure the orderly pursuit of business by insurance and reinsurance undertakings throughout the Community whether carried on under the right of establishment or the freedom to provide services. In order to ensure the effectiveness of the supervision all actions taken by the supervisory authorities should be proportionate to the nature and the complexity of the risks inherent to the business of an insurance or reinsurance undertaking, regardless of the importance of the undertaking concerned for the over-all financial stability for the market.

(15) Supervisory authorities should be able to obtain from insurance and reinsurance undertakings the information which is necessary for the purposes of supervision.

(16) The supervisory authorities of the home Member State should be responsible for monitoring the financial health of insurance and reinsurance undertakings. To this end they should carry out regular reviews and evaluations.

(17) The starting point for the adequacy of the quantitative requirements in the insurance sector is the Solvency Capital Requirement. Supervisory authorities should therefore impose a capital add-on to the Solvency Capital Requirement only under strictly defined exceptional circumstances following the supervisory review process. The Solvency Capital Requirement standard formula is intended to reflect the risk profile of most insurance and reinsurance undertakings. However, there may be some cases where the standardised approach does not adequately reflect the very specific risk profile of an undertaking. When such a deviation of an undertaking's risk profile is material and the development of a partial or full internal model is inefficient, the capital add-on may have a permanent character. In case of material deficiencies in the full or partial internal model or material governance failures the supervisory authorities should ensure that the undertaking concerned makes all efforts to remedy the deficiencies that led to the imposition of the capital add-on.

(18) Some risks may only be properly addressed through governance requirements rather than through the quantitative requirements reflected in the Solvency Capital Requirement. An effective governance system is therefore essential for the adequate management of the insurance undertaking and for the regulatory system.

(19) All insurance and reinsurance undertakings should have, as an integrated part of their business strategy, a regular practice of assessing their over-all solvency needs with a view to their specific risk profile. The results of each assessment should be reported to the supervisory authority as part of the information to be provided for supervisory purposes.

(20) In order to ensure effective supervision of outsourced activities, it is essential that the supervisory authorities of the outsourcing insurance or reinsurance undertaking have access to all relevant data held by the outsourcing service provider regardless of whether the latter is a regulated or unregulated entity as well as the right to conduct on-site inspections. In order to take account of market developments and to ensure that the conditions for outsourcing continue to be complied with, the supervisory authorities should be informed prior to the outsourcing of important activities. These requirements take into account the work of the Joint Forum and are consistent with the current rules and practices in the banking sector and the Markets in Financial Instruments Directive and its application to credit institutions.

(21) In order to guarantee transparency insurance and reinsurance undertakings should disclose at least annually essential information on their solvency and financial condition. Undertakings should be allowed to disclose additional information on a voluntary basis.

(22) Provision should be made for exchanges of information between the supervisory authorities and authorities or bodies which, by virtue of their function, help to strengthen the stability of the financial system. It is therefore necessary to specify the conditions under which those exchanges of information should be possible. Moreover, where information may be disclosed only with the express agreement of the supervisory authorities, those authorities should be enabled, where appropriate, to make their agreement subject to compliance with strict conditions.

(23) It is necessary to promote supervisory convergence not only in respect of supervisory tools but also in respect of supervisory practices. The Committee of European Insurance and Occupational Pensions Supervisors established by Commission Decision 2004/6/EC[35] should play an important role in this respect and report regularly on the progress made.

(24) In order to limit the administrative burden and avoid duplication of tasks, supervisory authorities and national statistical authorities should cooperate and exchange information.

(25) For the purposes of strengthening the supervision of insurance and reinsurance undertakings and the protection of policyholders, the statutory auditors within the meaning of Directive 2006/43/EC of the European Parliament and of the Council of 17 May 2006 on statutory audits of annual accounts and consolidated accounts, amending Council Directives 78/660/EEC and 83/349/EEC and repealing Council Directive 84/253/EEC[36] should have a duty to report promptly, any facts which are likely to have a serious effect on the financial situation or the administrative organisation of an insurance or a reinsurance undertaking.

(26) Insurance undertakings pursuing both life and non-life activities should manage those activities separately, in order to protect the interests of life policyholders. In particular, those undertakings should be subject to the same capital requirements as those applicable to an equivalent insurance group, made up of a life insurance undertaking and a non-life undertaking, taking into account the increased transferability of capital in the case of composite insurance undertakings.

(27) The assessment of the financial position of insurance and reinsurance undertakings should rely on sound economic principles and make optimal use of the information provided by financial markets, as well as generally available data on insurance technical risks.

(28) Valuation standards for supervisory purposes should be compatible with international accounting developments, to the extent possible, so as to limit the administrative burden on insurance or reinsurance undertakings.

(29) In accordance with that approach, capital requirements should be covered by own funds whether, on or off the balance-sheet items. Since all financial resources do not provide full absorption of losses in the case of winding-up and on a going-concern basis, own fund items should be classified in accordance with quality criteria, and the eligible amount of own funds to cover capital requirements should be limited accordingly. The limits applicable to own fund items should only apply to determine the solvency standing of insurance and reinsurance undertakings, and should not further restrict the freedom of those undertakings with respect to their internal capital management.

(30) In order to allow insurance and reinsurance undertakings to meet their commitments towards policyholders and beneficiaries, Member States should require those undertakings to establish adequate technical provisions. The calculation of those technical provisions should be harmonised throughout the Community in order to achieve better comparability and transparency.

(31) The calculation of technical provisions should be consistent with the valuation of assets and other liabilities, market consistent and in line with international developments in accounting and supervision.

(32) The amount of technical provisions should reflect the characteristics of the underlying insurance portfolio. Undertaking-specific information should therefore only be used in their calculation insofar as that information enables insurance and reinsurance undertakings to better reflect the characteristics of the underlying insurance portfolio.

(33) It is necessary that the expected present value of insurance liabilities is calculated on the basis of current and credible information and realistic assumptions, taking account of financial guarantees and options in insurance or reinsurance contracts, to deliver an economic valuation of insurance or reinsurance obligations. The use of effective and harmonised actuarial techniques should be required.

(34) In order to reflect the specific situation of small and medium sized undertakings, simplified approaches to the calculation of technical provisions should be provided for.

(35) The supervisory regime should provide for a risk-sensitive requirement, which is based on a prospective calculation to ensure accurate and timely intervention by supervisory authorities (the Solvency Capital Requirement), and a minimum level of security below which the amount of financial resources should not fall (the Minimum Capital Requirement). Both capital requirements should be harmonised throughout the Community in order to achieve a uniform level of protection for policyholders.

(36) The Solvency Capital Requirement should reflect a level of eligible own funds that enables insurance and reinsurance undertakings to absorb significant losses and that gives reasonable assurance to policyholders and beneficiaries that payments will be made as they fall due.

(37) In order to promote good risk management, and align regulatory capital requirements with industry practices, the Solvency Capital Requirement should be determined as the economic capital to be held by insurance and reinsurance undertakings in order to ensure that ruin occurs no more often than once every 200 years. That economic capital should be calculated on the basis of the true risk profile of those undertakings, taking account of the impact of possible risk mitigation techniques, as well as diversification effects.

(38) Provision should be made to lay down a standard formula for the calculation of the Solvency Capital Requirement, to enable all insurance and reinsurance undertakings to assess their economic capital. For the structure of the standard formula, a modular approach should be adopted, which means that the individual exposure to each risk category should be assessed in a first step and then aggregated in a second step. Where the use of undertaking-specific parameters allows for the true underwriting risk profile of the undertaking to be better reflected, this should be allowed, provided such parameters are derived using a standardised methodology.

(39) In order to reflect the specific situation of small and medium sized undertakings, simplified approaches to the calculation of the Solvency Capital Requirement in accordance with the standard formula should be provided for.

(40) In accordance with the risk-oriented approach to the Solvency Capital Requirement it should be possible, in specific circumstances, to use partial or full internal models for the calculation of that requirement instead of the standard formula. In order to provide policyholders and beneficiaries with an equivalent level of protection, such internal models should be subject to prior supervisory approval on the basis of harmonised processes and standards.

(41) As a matter of principle , the new risk-based approach does not comprise the concept of quantitative investment limits and asset eligibility criteria. It should however be possible to introduce investment limits and asset eligibility criteria to address risks which are not adequately covered by a sub-module of the standard formula.

(42) When the amount of eligible basic own funds falls below the Minimum Capital Requirement, the authorisation of insurance and reinsurance undertakings should be withdrawn, if those undertakings are unable to re-establish the amount of eligible basic own funds at the level of the Minimum Capital Requirement within a short period of time.

(43) It is necessary that the Minimum Capital Requirement is calculated in accordance with a simple formula, on the basis of data which can be audited.

(44) Insurance and reinsurance undertakings should have assets of sufficient quality to cover their overall financial requirements. All investments held by insurance and reinsurance undertakings should be managed in accordance with the "prudent person" principle.

(45) Member States should not require insurance and reinsurance undertakings to invest their assets in particular categories of assets, as such a requirement would be incompatible with the liberalisation of capital movements provided for in Article 56 of the Treaty.

(46) It is necessary to prohibit any provisions enabling Member States to require pledging of assets covering the technical provisions of an insurance or reinsurance undertaking, whatever form this requirement might take, when the insurer is reinsured by an insurance or reinsurance undertaking authorised pursuant to this Directive, or by a third-country undertaking where the supervisory regime of that third country has been deemed equivalent.

(47) In view of the increasing mobility of European citizens, motor liability insurance is increasingly being offered on a cross-border basis. To ensure the continued proper functioning of the green card system and the agreements between the national bureaux of motor insurers, it is appropriate that Member States are able to require insurance undertakings providing motor liability insurance in their territory by way of provision of services to join and participate in the financing of the national bureau as well as of the guarantee fund set up in that Member State. The Member State of provision of services should require undertakings which provide motor liability insurance to appoint a representative in its territory to collect all necessary information in relation to claims and to represent the undertaking concerned.

(48) Within the framework of an internal market it is in the interest of policyholders that they should have access to the widest possible range of insurance products available in the Community. The Member State of the commitment or the Member State in which the risk is situated should therefore ensure that there is nothing to prevent the marketing within its territory of all the insurance products offered for sale in the Community as long as they do not conflict with the legal provisions protecting the general good in force in that Member State and in so far as the general good is not safeguarded by the rules of the home Member State.

(49) Provision should be made for a system of penalties to be imposed when, in the Member State of the commitment or in which the risk is situated, an insurance undertaking does not comply with any applicable provisions protecting the general good.

(50) In an internal market for insurance, consumers have a wider and more varied choice of contracts. If they are to benefit fully from this diversity and from increased competition, they should be provided with whatever information is necessary before the conclusion of the contract and throughout the term of the contract to enable them to choose the contract best suited to their needs.

(51) An insurance undertaking offering assistance contracts should possess the means necessary to provide the benefits in kind which it offers within an appropriate period of time. Special provisions should be laid down for calculating the Solvency Capital Requirement and the absolute floor of the Minimum Capital Requirements which such undertaking should possess.

(52) The effective pursuit of Community co-insurance business for activities which are by reason of their nature or their size likely to be covered by international co-insurance should be facilitated by a minimum of harmonisation in order to prevent distortion of competition and differences in treatment. In this context, the leading insurance undertaking should assess claims and fix the amount of technical provisions. Moreover, special co-operation should be provided for in the Community co-insurance field both between the supervisory authorities of the Member States and between those authorities and the Commission.

(53) In the interest of the protection of insured persons, national law concerning legal expenses insurance should be harmonised. Any conflicts of interest arising, in particular from the fact that the insurance undertaking is covering another person or is covering a person in respect of both legal expenses and any other class of insurance should be precluded as far as possible or be able to be resolved. To this end, a suitable level of protection of policyholders can be achieved by different means. Whichever solution is adopted, the interest of persons having legal expenses cover should be protected by equivalent safeguards.

(54) Conflicts between insurance undertakings covering legal expenses and insured persons should be settled in the fairest and speediest manner possible. It is therefore appropriate that Member States provide for an arbitration procedure or a procedure offering comparable guarantees.

(55) In some Member States, private or voluntary health insurance serves as a partial or complete alternative to health cover provided for by the social security systems. The particular nature of such health insurance, distinguishes it from other classes of indemnity insurance and life insurance insofar as it is necessary to ensure that policyholders have effective access to private health cover or health cover taken out on a voluntary basis regardless of their age or risk profile. Given that nature and the social consequences of health insurance contracts, the supervisory authorities of the Member State in which a risk is situated should be able to require systematic notification of the general and special policy conditions in the case of private or voluntary health insurance in order to verify that such contracts are a partial or complete alternative to the health cover provided by the social security system. Such verification should not be a prior condition for the marketing of the products.

(56) To this end some Member States have adopted specific legal provisions. To protect the general good, it should be possible to adopt or maintain such legal provisions in so far as they do not unduly restrict the right of establishment or the freedom to provide services, it being understood that such provisions should apply in an identical manner. Those legal provisions may differ in nature according to the conditions in each Member State. The objective of protecting the general good may also be achieved by requiring undertakings offering private health cover or health cover taken out on a voluntary basis to offer standard policies in line with the cover provided by statutory social security schemes at a premium rate at or below a prescribed maximum and to participate in loss compensation schemes. As a further possibility, it may be required that the technical basis of private health cover or health cover taken out on a voluntary basis be similar to that of life insurance.

(57) Host Member States should be able to require any insurance undertaking which offers, within their territories, compulsory insurance against accidents at work at its own risk to comply with the specific provisions laid down in their national law on such insurance. However, such a requirement should not apply to the provisions concerning financial supervision, which should remain the exclusive responsibility of the home Member State.

(58) Appropriate rules should be provided for special purpose vehicles which assume risks from insurance and reinsurance undertakings without being an insurance or reinsurance undertaking. Recoverable amounts from a special purpose vehicle should be considered as amounts deductible under reinsurance or retrocession contracts.

(59) Due to the special nature of finite reinsurance activities, Member States should ensure that insurance and reinsurance undertakings concluding finite reinsurance contracts or pursuing finite reinsurance activities can properly identify measure and control the risks arising from those contracts or activities.

(60) In order to take account of the international aspects of reinsurance, provision should be made to enable the conclusion of international agreements with a third country aimed at defining the means of supervision over reinsurance entities which conduct business in the territory of each contracting party. Moreover, a flexible procedure should be provided for to make it possible to assess prudential equivalence with third countries on a Community basis, so as to improve liberalisation of reinsurance services in third countries, be it through establishment or cross-border provision of services.

(61) Measures concerning the supervision of insurance and reinsurance undertakings in a group should enable the authorities supervising an insurance or reinsurance undertaking to form a more soundly based judgment of its financial situation.

(62) Such group supervision should take into account insurance holding companies and mixed-activity insurance holding companies to the extent necessary. However, this Directive should not in any way imply that Member States are required to apply supervision to those undertakings considered individually.

(63) Whilst the supervision of individual insurance and reinsurance undertakings remains the essential principle of insurance supervision it is necessary to determine which undertakings fall under the scope of supervision at group level.

(64) Group supervision should apply in any case at the level of the ultimate participating undertaking which has its head office in the Community. Member States should however be able to allow their supervisory authorities to apply group supervision at a limited number of lower levels, where they deem it necessary.

(65) It is necessary to calculate solvency at group level for insurance and reinsurance undertakings forming part of a group.

(66) Insurance and reinsurance undertakings belonging to a group should be able to apply for the approval of an internal model to be used for the solvency calculation at both group and individual levels.

(67) It is necessary to ensure that own funds are appropriately distributed within the group and available to protect policyholders and beneficiaries where needed. To this end insurance and reinsurance undertakings within a group should have sufficient own funds to cover their solvency capital requirement, unless the objective of protection of policyholders and beneficiaries can effectively be achieved otherwise. Insurance and reinsurance undertakings within a group should therefore be authorised to cover their Solvency Capital Requirement with group support declared by their parent undertaking, under defined circumstances. In order to assess the need for and prepare any possible future revision of the group support regime, the Commission should report on the rules of the Member States and the practices of the supervisory authorities in this field.

(68) The solvency of a subsidiary insurance or reinsurance undertaking of an insurance holding company, third-country insurance or reinsurance undertaking may be affected by the financial resources of the group of which it is a part and by the distribution of financial resources within that group. The supervisory authorities should therefore be provided with the means of exercising group supervision and of taking appropriate measures at the level of the insurance or reinsurance undertaking where its solvency is or may be jeopardised.

(69) Risk concentrations and intra-group transactions can affect the financial position of insurance or reinsurance undertakings. The supervisory authorities should therefore be able to exercise general supervision over certain types of such risk concentrations and intra-group operations and take appropriate measures at the level of the insurance or reinsurance undertaking where its solvency is or may be jeopardised.

(70) Insurance and reinsurance undertakings within a group should have appropriate governance, systems which should be subject to supervisory review.

(71) All insurance or reinsurance groups subject to group supervision should have a group supervisor appointed from among the supervisory authorities involved. The rights and duties of the group supervisor should comprise appropriate coordination and decision-making powers. The authorities involved in the supervision of insurance and reinsurance undertakings belonging to the same group should establish coordination arrangements.

(72) The supervisory authorities should have access to all the information relevant to the exercise of group supervision. Cooperation between the authorities responsible for the supervision of insurance and reinsurance undertakings as well as between those authorities and the authorities responsible for the supervision of undertakings active in other financial sectors should be established.

(73) Insurance and reinsurance undertakings which are part of a group, the head of which is outside the Community should be subject to equivalent and appropriate group supervisory arrangements. It is therefore necessary to provide for transparency of rules and exchange of information with third-country authorities on all relevant circumstances.

(74) Since national legislation concerning reorganisation measures and winding-up proceedings is not harmonised it is appropriate, in the framework of the Internal Market, to ensure the mutual recognition of reorganisation measures and winding-up legislation of the Member States concerning insurance undertakings as well as the necessary cooperation taking into account the need for unity, universality, coordination and publicity for such measures and the equivalent treatment and protection of insurance creditors.

(75) It should be ensured that reorganisation measures which were adopted by the competent authority of a Member State in order to preserve or restore the financial soundness of an insurance undertaking and to prevent as much as possible a winding-up situation, produce full effects throughout the Community. However, the effects of any such reorganisation measures as well as winding-up proceedings vis-à-vis third countries should not be affected

(76) A distinction should be made between the competent authorities for the purposes of reorganisation measures and winding-up proceedings and the supervisory authorities of the insurance undertakings.

(77) The definition of “branch” for insolvency purposes, should, in accordance with existing insolvency principles, take account of the single legal personality of the insurance undertaking. However, the legislation of the home Member State should determine the manner in which the assets and liabilities held by independent persons who have a permanent authority to act as agent for an insurance undertaking are to be treated in the winding-up of an insurance undertaking.

(78) Conditions should be laid down under which winding-up proceedings which, without being founded on insolvency, involve a priority order for the payment of insurance claims, fall within the scope of this Directive. Claims by the employees of an insurance undertaking arising from employment contracts and employment relationships should be capable of being subrogated to a national wage guarantee scheme. Such subrogated claims should benefit from the treatment determined by the home Member State's law ( lex concursus ).

(79) Reorganisation measures do not preclude the opening of winding-up proceedings. Winding-up proceedings should therefore be able to be opened in the absence of, or following, the adoption of reorganisation measures and they may terminate with composition or other analogous measures, including reorganisation measures.

(80) Only the competent authorities of the home Member State should be empowered to take decisions on winding-up proceedings concerning insurance undertakings. The decisions should produce their effects throughout the Community and should be recognised by all Member States. The decisions should be published in accordance with the procedures of the home Member State and in the Official Journal of the European Union. Information should also be made available to known creditors who are resident in the Community who should have the right to lodge claims and submit observations.

(81) All the assets and liabilities of the insurance undertaking should, be taken into consideration in the winding-up proceedings.

(82) All the conditions for the opening, conduct and closure of winding-up proceedings should be governed by the law of the home Member State.

(83) In order to ensure coordinated action amongst the Member States the supervisory authorities of the home Member State and those of all the other Member States should be informed as a matter of urgency of the opening of winding-up proceedings.

(84) It is of utmost importance that insured persons, policyholders, beneficiaries and any injured party having a direct right of action against the insurance undertaking on a claim arising from insurance operations be protected in winding-up proceedings, it being understood that such protection does not include claims which arise not from obligations under insurance contracts or insurance operations but from civil liability caused by an agent in negotiations for which, according to the law applicable to the insurance contract or operation, the agent himself is not responsible under such insurance contract or operation. In order to achieve that objective, Member States should be provided with a choice between equivalent methods to ensure special treatment for insurance creditors, neither of those methods impeding a Member State from establishing a ranking between different categories of insurance claims. Furthermore, an appropriate balance should be ensured between the protection of insurance creditors and other privileged creditors protected under the legislation of the Member State concerned.

(85) The opening of winding-up proceedings should involve the withdrawal of the authorisation to conduct business granted to the insurance undertaking unless this has already occurred.

(86) Creditors should have the right to lodge claims or to submit written observations in winding-up proceedings. Claims by creditors resident in a Member State other than the home Member State should be treated in the same way as equivalent claims in the home Member State without any discrimination on the grounds of nationality or residence.

(87) In order to protect legitimate expectations and the certainty of certain transactions in Member States other than the home Member State, it is necessary to determine the law applicable to the effects of reorganisation measures and winding-up proceedings on pending lawsuits and on individual enforcement actions arising from lawsuits.

(88) The measures necessary for the implementation of this Directive should be adopted in accordance with Council Decision 1999/468/EC of 28 June 1999 laying down the procedures for the exercise of implementing powers conferred on the Commission[37]. In particular power should be conferred on the Commission to adopt measures concerning the adaptation of Annexes and measures specifying in particular the supervisory powers and actions to be taken and laying down more detailed requirements in areas such as the governance system, public disclosure, calculation of technical provisions and capital requirements, investment rules and group supervision. Since those measures are of general scope and are designed to amend non-essential elements of this Directive, and to supplement it by the addition of new non-essential elements they must be adopted in accordance with the regulatory procedure with scrutiny provided for in Article 5a of Decision 1999/468/EC.

(89) Since the objectives of the action to be taken cannot be sufficiently achieved by the Member States and can therefore, by reason of their scale and effects, be better achieved at Community level, the Community may adopt measures, in accordance with the principle of subsidiarity as set out in Article 5 of the Treaty. In accordance with the principle of proportionality, as set out in that Article, this Directive does not go beyond what is necessary in order to achieve those objectives.

(90) The provisions of Council Directive 64/225/EEC of 25 February 1964 on the abolition of restrictions on freedom of establishment and freedom to provide services in respect of reinsurance and retrocession[38], Council Directive 73/240/EEC of 24 July 1973 abolishing restrictions on freedom of establishment in the business of direct insurance other than life insurance[39], Council Directive 76/580/EEC of 29 June 1976 amending Directive 73/239/EEC on the coordination of laws, regulations and administrative provisions relating to the taking up and pursuit of the business of direct insurance other than life assurance[40] and Council Directive 84/641/EEC of 10 December 1984 amending, particularly as regards tourist assistance, the First Directive (73/239/EEC) on the coordination of laws, regulations and administrative provisions relating to the taking-up and pursuit of the business of direct insurance other than life[41] have become obsolete and should therefore be repealed.

(91) The obligation to transpose this Directive into national law should be confined to those provisions which represent a substantive change as compared with the earlier Directives. The obligation to transpose the provisions which are unchanged arises under the earlier Directives.

(92) This Directive should be without prejudice to the obligations of the Member States relating to the time-limits for transposition into national law of the Directives set out in Annex VI, Part B,

2002/83/EC (adapted)

HAVE ADOPTED THIS DIRECTIVE:

TITLE I

GENERAL RULES ON THE TAKING-UP AND PURSUIT OF DIRECT INSURANCE AND REINSURANCE

CHAPTER I

SUBJECT MATTER, SCOPE AND DEFINITIONS AND SCOPE

Section 1 - Subject matter and scope

2002/83/EC Art. 2 (adapted)

Article 1 Subject matter

This Directive concerns lays down rules concerning the following:

(1). the taking-up and pursuit , within the Community, of the self-employed activity activities of direct insurance carried on by undertakings which are established in a Member State or wish to become established there in the form of the activities defined below: and reinsurance;

(2) the supplementary supervision in the case of insurance and reinsurance groups;

(3) the reorganisation and winding-up of direct insurance undertakings.

84/641/EEC Art. 1 and 2002/83/EC Art. 2 (adapted)

Article 2 Scope

1. This Directive concerns the taking-up and pursuit of the self-employed activity of shall apply to direct life and non-life insurance, including the provision of assistance referred to in paragraph 2, carried on by undertakings which are established in the territory of a Member State or which wish to become established there.

2005/68/EC Art. 1 (adapted)

1. This Directive lays down rules for the taking up and pursuit of the self-employed activity of It shall also apply to reinsurance carried on by reinsurance undertakings, which conduct only reinsurance activities, and which are established in the territory of a Member State or which wish to become established therein with the exception of Title IV .

84/641/EEC Art. 1 (adapted)

2. For the purposes of the first subparagraph of paragraph 1 non-life insurance shall include Tthe assistance activity shall be the which is assistance provided for persons who get into difficulties while travelling, while away from home or while away from their permanentÖ habitual residence. It shall consist in undertaking, against the prior payment of a premium, to make aid immediately available to the beneficiary under an assistance contract where that person is in difficulties following the occurrence of a chance event, in the cases and under the conditions set out in the contract.

The aid may consist in the provision of benefits in cash or in kind. The provision of benefits in kind may also be effected by means of the staff and equipment of the person providing them.

The assistance activity does shall not cover servicing, maintenance, after-sales service or the mere indication or provision of aid as an intermediary.

3. The classification by classes of the activity referred to in this Article appears in the Annex.

2002/83/EC (adapted)

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3. As far as life insurance is concerned this Directive shall apply to the following:

(a) 1. the following kinds of assurance life insurance activities where they are on a contractual basis:

(ai) life assurance insurance , that is to say, the class of assurance which comprises, in particular, assurance on survival to a stipulated age only, assurance on death only, assurance on survival to a stipulated age or on earlier death, life assurance with return of premiums, marriage assurance, birth assurance;

(bii) annuities;

(ciii) supplementary insurance underwritten in addition to life insurance carried on by life assurance undertakings, that is to say, in particular, insurance against personal injury including incapacity for employment, insurance against death resulting from an accident and insurance against disability resulting from an accident or sickness, where these various kinds of insurance are underwritten in addition to life assurance;

(div) the type of permanent health insurance not subject to cancellation currently existing in Ireland and the United Kingdom known as permanent health insurance not subject to cancellation;

(b) 2. the following operations, where they are on a contractual basis, in so far as they are subject to supervision by the administrative authorities responsible for the supervision of private insurance:

(ai) tontines operations whereby associations of subscribers are set up with a view to jointly capitalising their contributions and subsequently distributing the assets thus accumulated among the survivors or among the beneficiaries of the deceased (tontines) ;

(bii) capital redemption operations based on actuarial calculation whereby, in return for single or periodic payments agreed in advance, commitments of specified duration and amount are undertaken;

(ciii) management of group pension funds, i.e. operations consisting, for the undertaking concerned, in managing ð comprising ï the management of investments, and in particular the assets representing the reserves of bodies that effect payments on death or survival or in the event of discontinuance or curtailment of activity;

(div) the operations referred to in point (ciii) where they are accompanied by insurance covering either conservation of capital or payment of a minimum interest;

(ev) the operations carried out by assurance life insurance undertakings such as those referred to in Chapter 1, Title 4 of Book IV of the French «Code des assurances».,

3. (c) Ooperations relating to the length of human life which are prescribed by or provided for in social insurance legislation, when in so far as they are effected or managed by life insurance undertakings at their own risk by assurance undertakings in accordance with the laws of a Member State.

73/239/EEC Art. 2(1)(d) and 2002/83/EC Art. 3(4) (adapted)

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SECTION 2 - EXCLUSIONS FROM SCOPE

SUBSECTION 1 - GENERAL

ARTICLE 3 Statutory systems

subject to the application of Without prejudice to point (c) of Article 2(3), this Directive shall not apply to insurance forming part of a statutory system of social security;

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Article 4Exclusion from scope due to size

1. Without prejudice to Articles 5 to 10 this Directive shall not apply to insurance undertakings whose annual premium income does not exceed EUR 5 million.

2. If the amount set out in paragraph 1 is exceeded for three consecutive years this Directive shall apply from the fourth year.

73/239/EEC Art. 2 (adapted)

SUBSECTION 2 – NON – LIFE

Article 5 Operations

For non-life insurance undertakings, Tthis Directive does shall not apply to

1. The following kinds of insurance:

(a) Life assurance, that is to say, the branch of insurance which comprises, in particular, assurance on survival to a stipulated age only, assurance on death only, assurance on survival to a stipulated age or an earlier death, life assurance with return of premiums, tontines, marriage assurance, and birth assurance;

(b) Annuities;

(c) Supplementary insurance carried on by life-assurance undertakings, that is to say, insurance against personal injury including incapacity for employment, insurance against death resulting from an accident, and insurance against disability resulting from an accident or sickness, where these various kinds of insurance are underwritten in addition to life assurance;

(e) The type of insurance existing in Ireland and the United Kingdom known as «permanent health insurance not subject to cancellation».

2. Tthe following operations:

(a1) Ccapital redemption operations, as defined by the law in each Member State;

(b2) Ooperations of provident and mutual benefit institutions whose benefits vary according to the resources available and in which the contributions of the members are determined on a flat-rate basis;

(c3) Ooperations carried out by organizations not having a legal personality with the purpose of providing mutual cover for their members without there being any payment of premiums or constitution of technical reserves;

87/343/EEC Art. 1.1 (adapted)

(d4) Pending further coordination, export credit insurance operations for the account of or guaranteed by the State, or where the State is the insurer.

84/641/EEC Art. 2 (adapted)

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Article 6 Assistance

1. This Directive shall not apply to The assistance activity which fulfils all the following conditions:

(a) in which liability is limited to the following operations the assistance is provided in the event of an accident or breakdown involving a road vehicle which normally when the accident or breakdown occurs in the territory of the Member State of the undertaking providing cover:;

(b) the liability for the assistance is limited to the following operations:

(i) an on-the-spot breakdown service for which the undertaking providing cover uses, in most circumstances, its own staff and equipment;

(ii) the conveyance of the vehicle to the nearest or the most appropriate location at which repairs may be carried out and the possible accompaniment, normally by the same means of assistance, of the driver and passengers to the nearest location from where they may continue their journey by other means;

(iii) if provided for by the Member State of the undertaking providing cover, the conveyance o