Implications of the changes in Bermuda’s regulatory regime

Background

In February 2023, the Bermuda Monetary Authority (BMA) issued a consultation paper (CP1) that set out some proposals to enhance the regulatory regime for (re)insurers in Bermuda. On 30 July, the BMA issued a second consultation paper which built upon the proposals outlined in CP1.

This consultation has now ended. The BMA has subsequently also issued guidance on the statutory reporting regime, new rules on the Insurance Group Solvency Requirement and guidance on making adjustments under section 6D of the Insurance Act under the three routes: simple, simple-complex and complex.

This article describes some of the key developments described in these consultation papers and considers the implications that the change in regulatory regime may have both on Bermudan (re)insurers and the wider insurance industry.

In this article, we have sought to highlight some important points only. The full consultation, CP2, can be found here.

Key Developments

Developments since CP1

The proposed enhancements outlined in CP2 are largely consistent with those set out in CP1. However, there were a few notable updates, such as the restructuring of the “mass lapse floors” which reduces the minimum level of stress to be applied for some products in the mass lapse Bermuda Solvency Capital Requirement (BSCR) calculation and a 10-year transition period for the introduction of the risk-sensitive lapse and expense risk capital charges under the BSCR.  

The BMA also weakened its position on approvals for the use of existing Scenario-Based Approach (SBA) discount rates for determining liabilities so that prior approval is required where there are material changes to the existing entities’ SBA model, rather than for all SBAs. The SBA will of course continue to be a focus of regulatory scrutiny in future, including regular reviews.

Overall

There are wide-ranging implications for life (re)insurers resulting from a fundamental impact on the computation of both the Technical Provisions and the capital requirements for their business. The implications for non-life insurers are less wide-ranging and focus on the proposed changes to the BSCR, bringing these more in line with Solvency II for certain man-made risks.

The BMA’s proposals have three main themes for life (re)insurers:

1. Refreshing the calculation of Technical Provisions and bringing liability discount rates more in line with those used in other territories. This is achieved by placing greater restrictions on the Scenario Based Approach (SBA) discount rate so that it is more closely aligned to the matching adjustment under Solvency II and eliminating the differences between the euro-denominated rates curves provided by EIOPA and those provided by the BMA. There will also be a requirement to calculate the risk margin on an unconsolidated basis, so that there is no diversification of the risk margins of different entities within a group, also making the risk margin more aligned to the Solvency II approach. Insurers are finding the new regulatory default and downgrade (DD) assumptions particularly onerous. In future, the assumed level of default and downgrade will be prescribed by the BMA for a range of assets so that the approach taken by firms is standardised. This standardised approach would be based on historic data over a long time period to which an uncertainty margin is applied. Approval would be required for assets where the DD assumptions are not prescribed by the BMA and the BMA has set clear expectations in relation to the prudence of DD assumptions for such assets. However, some firms may be able to use their own Internal rating processes to determine the DD assumptions for such assets, where this has been approved by the BMA. In such cases, the Chief Actuary and Chief Investment Officer would be required to attest to the prudence of the DD assumptions and this process will require a considered approach with appropriate governance and oversight.

2. Updating the calculation of BSCR so that it becomes more risk sensitive for lapse and expense risks, as well as amending non-life catastrophe risk charges to better capture man-made risks. CP2 proposes a 10-year transitional period to smooth in the new capital charges (and risk margin) by applying weightings during the transitional period.

3. Placing greater emphasis on the accountability of senior management (e.g. attestation over the SBA process) and a reinforcement of the duties of senior management with much greater scrutiny on the systems and controls employed by firms to gain comfort over the efficient and accurate operation of their key processes and models. There is also an increased expectation for firms to demonstrate their risk management and capabilities for managing the risks to which they are exposed.        

Implications

The enhancements will lead to an increase in the cost of doing business both from an increase in regulatory fees and from the increased demands on firms from additional regulatory complexity and scrutiny which will require firms to recruit more staff to run their businesses. These are likely to impact the smallest (re)insurers most and along with the increase in taxation in the region, may lead some to question whether Bermuda is as attractive a place to set up business as was once thought.

We expect that the impact of the proposed changes will vary from firm to firm, with the overall industry effect of the proposed changes likely to be a reduction in solvency position. From our discussions, we understand that the solvency ratio for some firms is likely to fall and so some communication and stakeholder management may be required for such firms. It will also be interesting to see how the increased capital requirements are reflected in (re)insurance pricing.

Given the expected increase in the cost of doing business, and likely increases in capital required to support certain new businesses, these reforms are likely to lead to an upward pressure on the cost of asset-intensive reinsurance. It remains to be seen whether this will have an impact on the demand for such reinsurance arrangements, which are also receiving scrutiny from regulators in other territories too.

The increased focus on the SBA is likely to increase the focus on the assets held to back annuity-like liabilities and firms will need to have better matching of assets and avoid having unsellable assets in their portfolios, to achieve an attractive SBA discount rate. This may be more challenging for smaller insurers who may not have strong asset origination capabilities of their own and may favour those larger firms with strong in-house asset origination capabilities.

We are seeing a global trend towards regulatory regimes which are economic in nature, as regulators around the globe start to align their regimes towards the International Capital Standards developed by the International Association of Insurance Supervisors.  

The enhancements to the Bermuda regime are consistent with this trend and the potential for firms to exploit regulatory arbitrage opportunities is diminished by the proposals. We may see some firms revisit their business strategy, in light of this and the diminishing tax advantages of operating on the island. This, in turn, may lead to some increased consolidation of firms in future.

However, we consider the business environment in Bermuda to be a robust place for firms to do business and some may view the shift in regulatory regime as a price worth paying given the benefits of Solvency II equivalence and privileged access to the US market that come from operating on the island. We also consider that the business environment in Bermuda remains agile and offers firms a degree of strategic optionality that isn’t present in some other territories.

How we can help

We provide our clients with a full range of actuarial insurance services, including support in transactions, assumption setting and longevity risk capital modelling. We have a team of over 70 insurance and reinsurance specialists, who have significant experience in the following areas.

• Risk and capital – including developing, validating and managing economic capital models; supporting clients to understand the impact of regulatory changes on their strategy; capital optimisation and carrying out regulated roles.

• Investments and ALM – including credit risk modelling; asset risk structuring, risk identification and internal ratings; advising on the use and calculation of the SBA and the Solvency II Matching Adjustment; and reviewing hedge designs.

• Longevity – including supporting clients in the UK, USA, Canada and Bermuda with developing, refining and validating longevity capital models; setting longevity trend assumptions; and analysing pension scheme annuity book transactions.  

• Products and Digital tools – including advice on product design and market strategy; pricing support; policyholder remediations; and consumer-related activities.

• Property and Casualty (P&C) – including advising our P&C clients on reserving; capital modelling and model validation; pricing and underwriting; governance frameworks and carrying out regulated roles such as Chief Actuary, Chief Risk Officer and Independent Expert.

If you would like to discuss any of the content of this paper or economic capital regimes more generally, please get in touch.

This blog is based upon our understanding of events as at 31 October 2023. It is a general summary of topical matters and should not be regarded as financial advice. It should not be considered a substitute for professional advice on specific circumstances and objectives. Where this blog refers to legal matters please note that Hymans Robertson LLP is not qualified to provide legal opinion and therefore you may wish to obtain independent legal advice to consider any relevant law and/or regulation. Please read our Terms of Use - Hymans Robertson