15 avril 2024 Tim Brown Financial Regulation - Insurance

UK Solvency II: PRA clarifies its plans for matching adjustment reform

The UK’s Prudential Regulation Authority (the “PRA”) has today published a statement providing certain clarifications on its reform of the Solvency II rules concerning the use of the matching adjustment (the “MA”). 

Background

In September 2023, the PRA published the second of its three planned consultation papers on Solvency II reform, focusing on reform of the MA. The PRA’s proposals would widen the range of investments that insurers are able to include in their MA portfolios so as to embrace assets with ‘highly predictable’, and not just ‘fixed’, cash flows. Other changes proposed by the PRA would include a streamlined process for certain MA applications and a new requirement for a senior manager to attest to the sufficiency of the fundamental spread and quality of the MA on an annual basis. 

Our client alert contains further details of the PRA’s consultation.

PRA expects to publish final MA rules in early June

In their responses to the PRA’s consultation firms asked for certain clarifications. Today’s statement is designed to provide some answers on that score, as well more generally to help firms prepare for their implementation of the MA reforms (which are slated to take effect from 30 June 2024).

In its statement, the PRA indicates that it is still considering feedback to its consultation, but that it is on course to publish a policy statement on MA reform in early June. This will include the final rules in this area. 

Firms won’t need to reapply for existing MA permissions

The PRA confirms that firms will not need to reapply for permission to apply the MA where such a permission has already been granted prior to 30 June 2024. 

No changes are planned to the classification of existing ‘fixed’ assets 

The PRA says that some firms have been concerned that the proposals to allow assets with ‘highly predictable’ cash flows to be included within MA portfolios would result in a reclassification of significant volumes of existing assets in MA portfolios as having ‘highly predictable’ (rather than ‘fixed’) cash flows. If this were to be the case, given that the new rules allow only a maximum of 10% of the total MA benefit of an MA portfolio to be generated by assets with ‘highly predictable’ cash flows, there might be a danger of existing assets using up, or even exceeding, that 10% limit.

However, in today’s statement the PRA makes clear that such a reclassification is not within the scope of its proposals. Instead, the PRA says that its intention was only to broaden the MA eligibility criteria to go beyond allowing assets with ‘fixed’ cash flows, rather than to change the PRA’s policy on where assets are considered to have ‘fixed’ cash flows. The PRA will adjust its final policy and rules as necessary to clarify this point and to ensure that no unintended changes are made to its policy on assets which are considered to have ‘fixed’ cash flows.

Implementation

Some firms raised concerns about the practical challenges raised by the general intended implementation date of the MA reforms of 30 June 2024. In response to this, the PRA says that its policy statement will contain further information on the date(s) on which new requirements for firms will take effect and whether early adoption will be possible on a voluntary basis. In the meantime, the PRA makes the following specific observations:

  • The PRA highlights that the proposal in its consultation was that annual MA attestations should be aligned with a firm’s Solvency and Financial Condition Report (“SFCR”). This would mean an effective date for MA attestations of year-end 2024 for most firms. In today’s statement, the PRA says that the proposed policy relating to voluntary fundamental spread additions would allow firms to consider their use beyond just the purposes of attestations, and at any time.
  • Although firms would have the option to apply additions to the fundamental spread from 30 June 2024, the PRA recognises that it may take firms some time to embed the processes for determining if a voluntary fundamental spread addition should be applied. It therefore expects firms to fully embed those processes in time for their first year-end after 30 June 2024 (which should, again, align with firms’ SFCRs, i.e. for most firms the effective date for this requirement will be 31 December 2024).
  • In due course, the PRA will provide firms with more information on how best to document compliance with the new fundamental spread notching requirements.
  • The PRA confirms that it does not expect that firms will need to submit a new MA application in relation to the new notching or sub-investment grade MA cap requirements at the point of implementation (unless coupled with other changes to the MA portfolio that would require an MA application).
More guidance will follow on the revised MA application process

The PRA says that it will provide further guidance and materials before 30 June 2024 on the reformed MA application process.