The Insurance Companies Regulations 1994

PART IV MARGINS OF SOLVENCY

Interpretation: Part IV

16.  In this Part of these Regulations—

• “first calculation” and “second calculation” have the meaning given in regulation 18(1) to (3) below;

• “implicit items” has the meaning given by regulation 23(5) below and “implicit item” shall be construed accordingly;

• “required margin of solvency” means a margin of solvency required by section 32 of the Act;

• “zillmerising” means the method known by that name for modifying the net premium reserve method of valuing a long term policy by increasing the part of the future premiums for which credit is taken so as to allow for initial expenses.

Margins of solvency: determination

17.—(1) Subject to paragraphs (2) to (5) below, the margin of solvency to be maintained by an insurance company to which Part II of the Act applies shall be determined—

(a) as regards long term business, in accordance with regulations 18 to 21 below, and

(b) as regards general business, by taking the greater of the two sums resulting from the application of the two methods of calculation set out in Schedules 3 and 4 respectively.

(2) Where an insurance company is required to maintain a United Kingdom margin of solvency or an EEA margin of solvency—

(a) the United Kingdom margin of solvency shall be determined by applying paragraph (1) above, but only to business carried on in the United Kingdom, and

(b) the EEA margin of solvency shall be determined by applying paragraph (1) above, but only to business carried on in the EEA States taken together.

(3) For a contract to which section 1(3) of the Act applies, the required margin of solvency shall be determined by taking the aggregate of the results arrived at by applying—

(a) in the case of so much of the contract as is within any class of long term business, the appropriate method prescribed by this Part of these Regulations for that class, and

(b) in the case of so much of the contract as is within general business class 1 or 2, the method of calculation set out in Schedule 3 (excluding paragraphs 7, 8 and 9).

(4) Where an insurance company carries on long term business and owing to the nature of that business more than one margin of solvency is produced in respect of that business by the operation of this Part of these Regulations, the margins in question shall be aggregated as regards the company in order to arrive at the company’s required margin of solvency for long term business.

(5) Where an insurance company carries on both long term and general business and is accordingly required to maintain separate margins of solvency in respect of the two kinds of business—

(a) these Regulations shall apply for determining the margin of solvency for each kind of business separately, and

(b) assets other than those representing the fund or funds maintained by the company in respect of its long term business, if they are not included among the assets covering the liabilities and the margin of solvency relating to the company’s general business, may be included among the assets taken into account in covering the liabilities and the margin of solvency for the company’s long term business.

Long term classes I, II and IX

18.—(1) For long term business of class I, II or IX the required margin of solvency shall be determined by taking the aggregate of the results arrived at by applying the calculation described in paragraph (2) below (“the first calculation”) and the calculation described in paragraphs (3), (4), (5) and (6) below (“the second calculation”).

(2) For the first calculation—

(a) there shall be taken a sum equal to 4 per cent. of the mathematical reserves for direct business and reinsurance acceptances without any deduction for reinsurance cessions,

(b) the amount of the mathematical reserves at the end of the last preceding financial year after the deduction of reinsurance cessions shall be expressed as a percentage of the amount of those mathematical reserves before any such deduction, and

(c) the sum mentioned in sub-paragraph (a) above shall be multiplied—

(i) where the percentage arrived at under sub-paragraph (b) above is greater than 85 per cent. (or, in the case of a pure reinsurer, 50 per cent.), by that greater percentage, and

(ii) in any other case, by 85 per cent. (or, in the case of a pure reinsurer, 50 per cent.).

(3)  For the second calculation—

(a) there shall be taken, subject to paragraphs (4), (5) and (6) below, a sum equal to 0.3 per cent. of the capital at risk for contracts on which the capital at risk is not a negative figure,

(b) the amount of the capital at risk at the end of the last preceding financial year for contracts on which the capital at risk is not a negative figure, after the deduction of reinsurance cessions, shall be expressed as a percentage of the amount of that capital at risk before any such deduction, and

(c) the sum arrived at under sub-paragraph (a) above shall be multiplied—

(i) where the percentage arrived at under sub-paragraph (b) above is greater than 50 per cent., by that greater percentage, and

(ii) in any other case, by 50 per cent.

(4) Where, in a case other than that of a pure reinsurer, a contract provides for benefits payable only on death within a specified period and is valid for a period of not more than three years from the date when the contract was first made, the percentage to be taken for the purposes of paragraph (3)(a) above shall be 0.1 per cent.; and where the period of validity from that date is more than three years but not more than five years, the percentage to be so taken shall be 0.15 per cent.

(5) For the purposes of paragraph (4) above, the period of validity of the contract evidencing a group policy is the period from the date when the premium rates under the contract were last reviewed for which the premium rates are guaranteed.

(6) In the case of pure reinsurers, the percentage to be taken for the purposes of paragraph (3)(a) above shall be 0.1 per cent.

(7) For the purposes of the second calculation, the capital at risk is—

(a) in any case in which an amount is payable in consequence of death other than a case falling within sub-paragraph (b) below, the amount payable on death, and

(b) in any case in which the benefit under the contract in question consists of the making, in consequence of death, of the payment of an annuity, payment of a sum by instalments or any other kind of periodic payments, the present value of that benefit,

less in either case the mathematical reserves in respect of the relevant contracts.

(8) When the amount of the mathematical reserves referred to in paragraph (2)(a) above, or the amount of the capital at risk referred to in paragraph (3)(a) above, is to be calculated for the purposes of determining the required margin of solvency, the day as on which that amount is calculated shall be the same as that as on which the margin of solvency is determined; and the mathematical reserves referred to in paragraph (7) above shall also be calculated as on that day when the capital at risk in question is that referred to in paragraph (3)(a) above, but shall be calculated as at the end of the last preceding financial year when the capital at risk in question is that referred to in paragraph (3)(b) above.

Long term classes III, VII and VIII

19.—(1) For long term business of class III, VII or VIII the required margin of solvency shall be determined in accordance with paragraphs (2) to (5) below.

(2) In so far as an insurance company bears an investment risk, the first calculation shall be applied.

(3) In so far as—

(a) an insurance company bears no investment risk, and

(b) the total expired and unexpired term of the relevant contract exceeds five years, and

(c) the allocation to cover management expenses in the relevant contract has a fixed upper limit which is effective as a limit for a period exceeding five years,

the first calculation shall be applied, but as if regulation 18(2)(a) above contained a reference to 1 per cent. instead of 4 per cent.

(4) If neither paragraph (2) nor paragraph (3) above applies, then, subject to paragraph (5) below, the required margin of solvency is zero.

(5) Where an insurance company covers a death risk, a sum arrived at by applying the second calculation (regulation 18(4) and (5) above being disregarded) shall be added to any required margin of solvency, including a required margin of solvency of zero, arrived at under paragraph (2), (3) or (4) above.

Long term classes IV and VI

20.  For long term business of class IV or VI the required margin of solvency shall be determined by applying the first calculation.

Long term class V

21.  For long term business of class V the required margin of solvency shall be equal to 1 per cent. of the assets of the relevant tontine.

Guarantee fund and minimum guarantee fund

22.—(1) Subject to paragraphs (2) and (3) below, one-third of a required margin of solvency (being, in the case of long term business, the required margin of solvency arrived at in accordance with regulation 17(4) above) shall constitute the amount (“the guarantee fund”) to be prescribed or determined for the purposes of section 33 of the Act.

(2) The guarantee fund shall not be less than an amount (“the minimum guarantee fund”) arrived at in accordance with Schedule 5, whether the required margin of solvency is greater or less than that amount.

(3) In the case of long term business, items that are not implicit items must be at least large enough to cover either the minimum guarantee fund or 50 per cent. of the guarantee fund, whichever is the greater.

Valuation

23.—(1) Where an insurance company has assets equal to or in excess of its liabilities, then, in addition to any other applicable valuation regulations, paragraphs (2) to (5) below shall have effect for determining the extent to which the value of the assets exceeds the amount of liabilities in connection with the required margin of solvency, the guarantee fund and the minimum guarantee fund.

(2) Where—

(a) a company has issued shares some or all of which are not fully paid and the total paid-up value of all the shares is equal to or greater than one quarter of their nominal value or, in the case of shares issued at a premium, of the aggregate of their nominal value and the premium, or

(b) at least one quarter of the fund of a mutual is paid up,

an amount not greater than half the total value of the amounts unpaid may be taken into account as an asset; and for the purposes of this paragraph a share shall not be regarded as fully paid if there are any amounts due but unpaid thereon.

(3) Where a company has issued cumulative preference shares, liabilities in respect of such shares shall (notwithstanding regulation 60(2) below) only be left out of account—

(a) in the case of such shares which are redeemable shares for the purposes of section 159 of the Companies Act 1985(1), up to 25 per cent. of the required margin of solvency; and

(b) in the case of such shares which are not so redeemable, up to 50 per cent. of the required margin of solvency.

(4) In the case of a mutual carrying on general business, any claim which the mutual has against its members by way of a call for supplementary contributions for a financial year shall have its full value for that financial year, subject to the limitation that the value shall not exceed the lesser of—

(a) 50 per cent. of the difference between the maximum contributions and the contributions called in, or

(b) 50 per cent. of the required margin of solvency.

(5) The items mentioned in regulations 24 to 26 below (which relate to future profits, zillmerising and hidden reserves and shall be known as “implicit items”) shall have no value except in pursuance of an order under section 68 of the Act; but in pursuance of such an order—

(a) any of the implicit items may be valued in accordance with the said regulations 24 to 26 as respects long term business, and

(b) the implicit item relating to hidden reserves may be valued in accordance with regulation 26 below as respects general business.

Implicit items: future profits

24.—(1) The implicit item relating to future profits may be valued at not more than 50 per cent. of the full amount of future profits.

(2) For the purposes of paragraph (1) above, the full amount of future profits shall be obtained by multiplying the estimated annual profit by a factor which shall as nearly as may be represent the average number of years remaining to run on policies but shall, if it exceeds 10, be reduced to 10.

(3) For the purposes of paragraph (2) above—

(a) the estimated annual profit shall be taken to be one-fifth of the profits made in long term business over a period of five years (“the relevant period”) ending on the last day of the most recent financial year for which a valuation under section 18 of the Act has been carried out, substantial items of an exceptional nature being excluded, and

(b) the average number of years remaining to run on policies shall be calculated—

(i) by multiplying the number of years to run on each policy by the actuarial value of the benefits payable under the policy, adding together the products so obtained and dividing the total by the aggregate of the actuarial values of the benefits payable under all the policies, or

(ii) by an approximation to this method of calculation suitable to the circumstances of the case, including, where appropriate, an approximation involving the grouping of contracts,

appropriate allowance being made in either case for premature termination of contracts.

(4) For the purposes of paragraph (3)(a) above—

(a) where a valuation under section 18 of the Act has been carried out annually in relation to the relevant period, the profits made in long term business for any particular year of the relevant period shall be taken to be the surplus (if any) arising in the long term fund since the last such valuation, and the profits so made for that period shall be taken to be the aggregate of those surpluses less any deficiencies in the long term fund during that period;

(b) where an insurance company has carried on long term business throughout the relevant period but valuations under section 18 of the Act have not been made annually in that period, the profits so made for that period shall be taken to be the aggregate of surpluses arising in the long term fund since the last valuation preceding the relevant period less any deficiencies in the long term fund since that last valuation, except that the surplus or deficiency arising in the period ending with the first valuation within the relevant period shall be proportionately reduced to allow for any period of time falling outside the relevant period;

(c) where an insurance company has not carried on long term business throughout the relevant period, the profits made in long term business for the relevant period shall be taken to be the aggregate of any surpluses arising in the long term fund during that part of the relevant period for which long term business was carried on less any deficiencies in the long term fund during that part of that period.

Implicit items: zillmerising

25.—(1) Where zillmerising is appropriate but either is not practised or is at a rate less than the loading for acquisition costs included in the premium, then, subject to paragraph (6) below, the implicit item relating to zillmerising may be valued at an amount not exceeding the difference between—

(a) the non-zillmerised or partially zillmerised figure for mathematical reserves maintained by the company concerned, and

(b) a figure for mathematical reserves (not less than those required by Part IX of these Regulations) zillmerised at a rate equal to the loading for acquisition costs included or allowed for in the premium.

(2) Where zillmerising is not practised, then, subject to paragraph (6) below, the value given by paragraph (1) above (less any amount relating to temporary assurances) shall not exceed 3.5 per cent. of the aggregate of the difference between—

(a) the relevant capital sums for long term business activities, and

(b) the mathematical reserves (excluding mathematical reserves for temporary assurances).

(3) Where zillmerising is practised but is at a rate less than the loading for acquisition costs, then, subject to paragraph (6) below, the value given by paragraph (1) above (less any amount relating to temporary assurances) together with the difference between the partially zillmerised mathematical reserves and the non-zillmerised mathematical reserves shall not exceed 3.5 per cent. of the aggregate of the difference between—

(a) the relevant capital sums of long term business activities, and

(b) the mathematical reserves (excluding mathematical reserves for temporary assurances).

(4) In paragraphs (2) and (3) above “relevant capital sums” means—

(a) for whole life assurances, the sum assured,

(b) for policies where a sum is payable on maturity (including policies where a sum is also payable on earlier death), the sum payable on maturity,

(c) for deferred annuities, the capitalised value of the annuity at the vesting date (or the cash option if it is greater),

(d) for capital redemption contracts, the sums payable at the end of the contract period, and

(e) for linked long term contracts, notwithstanding sub-paragraphs (a) to (d) above, the lesser of—

(i) the amount for the time being payable on death, and

(ii) the aggregate of the value for the time being of the units allocated to the contract (or, where entitlement is not denoted by means of units, the value for the time being of any other measure of entitlement under the contract equivalent to units) and the total amount of the premiums remaining to be paid during such of the term of the contract as is appropriate for zillmerising or, if such premiums are payable beyond the age of seventy-five, until that age,

excluding in all cases any vested reversionary bonus and any capital sums for temporary assurances.

(5) Where, under the contract relating to any such business as is mentioned in paragraph (4) above, the payment of premiums is to stop before the sum assured becomes due, then, notwithstanding the said paragraph (4), “relevant capital sums” in paragraphs (1) to (3) above shall be taken to mean the mathematical reserves appropriate for that contract at the end of the premium-paying term.

(6) For the purposes of this regulation—

(a) reserves for vested reversionary bonuses shall not be regarded as mathematical reserves, and

(b) the result given by paragraph (1), (2) or (3) above shall be reduced by the amount of any undepreciated acquisition costs brought into account as an asset.

Implicit items: hidden reserves

26.  The implicit item relating to hidden reserves, if it consists of hidden reserves resulting from the underestimation of assets and overestimation of liabilities (other than mathematical reserves), may, in so far as the hidden reserves in question are not of an exceptional nature, be given its full value.

(1)

1985 c. 6.