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Recent proposals for Solvency II, the upcoming risk-based capital regulatory regime for insurers and reinsurers in the European Union, may significantly increase the capital and compliance burden for captives, Fitch Ratings Ltd. said in a report.
Owners of captives in the European Union likely will have to strengthen their risk management and governance functions and may need to inject capital into their captives to comply with Solvency II's demands, the London rating agency unit said Wednesday in the report.
Solvency II will apply to large E.U. captives, although a “principle of proportionality” likely will be applied.
The way in which the principle of proportionality, which will take into account the size and complexity of captives, is applied will be critical to the attractiveness of E.U. captive domiciles, Fitch said.
“Fitch expects proportionality to be applied by individual regulators in a way that makes the majority of E.U.-based captives viable under Solvency II,” the rating agency said in a statement.
But in some cases, particularly for small captives with “limited financial strength and expertise, the new compliance requirements are likely to prove too burdensome, resulting in a limited outflow of captive entities from the European Union.”
The results of the European Insurance and Occupational Pensions Authority's fifth quantitative impact study on Solvency II, published last March, showed that more than 30% of E.U. captives fell short of the upcoming rules' standard solvency requirement, the report noted.
Because Solvency II is designed to regulate “average” insurers, it poses challenges for other types of insurers, such as captives, that have unique characteristics, Fitch said in the report, “Solvency II—Risks Disrupting the Captive Landscape.”
Solvency II may lead to consolidation among captives whose owners operate more than one captive, Fitch noted, and some owners may redomicile their captives to jurisdictions where regulations are deemed to be less burdensome.
For in-depth coverage of this topic and related issues, visit our Solution Arc on Solvency II Compliance and Business Challenges for Insurers.
FRANKFURT, Germany—Captives performed well in the latest test of Solvency II, the risk-based capital regulatory regime slated for introduction in Europe at the start of 2013, according to the European Insurance & Occupational Pensions Authority.