The insurance sector in the UK is subject to a complex and dynamic regulatory framework, which aims to ensure the protection of policyholders, the stability of the financial system and the promotion of fair and effective competition.
The main sources of regulation in the UK come from legislation, the rules and guidance of the Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA). Underpinning these sources are the common law and contractual principles that govern the relationship between insurers and insureds.
In this blog, we will take a quick look at some of the key regulatory frameworks that players in the market need to be aware of.
Solvency and capital requirements for Insurers
The Solvency Capital Requirements (SCR) set out that insurers must maintain adequate financial resources to ensure they can meet their liabilities and withstand difficult situations and periods.
The SCR are set out in the Solvency II Directive and prescribe certain levels of capital that an insurer is expected to hold to pay claims as they fall due. In calculating the level of capital required, a diverse range of risks are taken into account with the requirement being that the SCR is calculated at a “value at risk” subject to a 99.5% confidence level.
This effectively means that the SCR levels should allow for an insurer to be able to withstand all but the most extreme risks without the depletion of its capital.
The SCR functions alongside the Minimum Capital Requirement (MCR) which is a lower threshold to establish the absolute minimum level of capital an insurer should maintain. The PRA, as the regulatory arm of the Bank of England, oversees this regime and should an insurer’s capital fall below the SCR the PRA is able to intervene in the management and operation of the insurer. If the level of capital falls below the MCR then the PRA is able to withdraw authorisation and prevent the insurer from taking on new business.
These protections offer peace of mind to insureds taking out insurance, which is often increasingly expensive.
Regulation of consumer insurance
The UK’s financial regulator, the FCA, maintains a specific set of insurance-focused conduct of business rules (ICOBS) alongside its more general conduct of business rules (COBS).
These rules focus on consumer protection and set out that an insurer and its intermediaries must treat their customers fairly and conduct themselves in a way that is clear, fair and not misleading. The rules cover the entire lifecycle of an insurance product from design and governance to distribution and sales, claims handling and complaints and customer communications.
While these provisions are high-level, the FCA has the ability to impose fines, bans or other measures where they determine the rules have been breached. In September 2023, for example, a Final Notice was published against the insurer Direct Line for a breach of ICOBS rules relating to pricing structures where existing home and motor insurance customers were charged more for their renewals than new customers.
In a similar theme of consumer protection, the FCA has spearheaded the introduction of new consumer duty rules aimed at improving the standard of communication and consumer protection across financial services, including insurance. The stated core principle of these rules is that firms must act to deliver good outcomes for retail customers. The duty came into effect for new sales from 31 July 2023 with this being expanded to cover existing sales from 31 July 2024. The duty includes requirements for firms to:
- Make it as easy to switch or cancel products as it was to take them out.
- Provide helpful and accessible customer support.
- Provide timely, clear and understandable information about products and services so that people can make good financial decisions.
- Provide products and services that are right for their customers.
- Focus on the real and diverse needs of customers, including those in vulnerable circumstances.
The duty does not regulate what an insurer may charge for product-specific features such as premiums paid by installments, administrative charges and mid-term cancellation fees. Insurers will, however, need to demonstrate that any charges are reasonable and that they meet the price and value outcome.
The FCA completed a thematic review of the regulations in August 2024 and explicitly referenced insurers when reporting on the outcome of the review, stating that insurers were failing to meet the new requirements, particularly in relation to demonstrating to consumers how products offer fair value and outcomes.
Regulation of commercial insurance
The FCA Handbook applies different regulatory rules to the provision of commercial insurance where a contract of insurance fits the definition of a “contract of large risks”. This includes insurance relating to:
- railway rolling stock, aircraft, ships (sea, lake, river and canal vessels), goods in transit, aircraft liability and liability of ships (sea, lake, river and canal vessels);
- credit and suretyship, where the policyholder is engaged professionally in an industrial or commercial activity or in one of the liberal professions, and the risks relate to such activity;
- land vehicles (other than railway rolling stock), fire and natural forces, other damage to property, motor vehicle liability, general liability and miscellaneous financial loss, in so far as the policyholder exceeds the limits of at least two of the following three criteria:
- balance sheet total: €6.2 million;
- net turnover: €12.8 million;
- average number of employees during the financial year: 250
Where an insurance contract falls into the above definition, the majority of the ICOBS rules do not apply and aspects of the “PROD 4” regime relating to product governance are also not applicable, creating a looser framework of regulation for commercial insurance.
However, in July 2024 the FCA published its discussion paper DP24/1 which identified issues with the current regime and stated its aim to potentially amend definitions to distinguish small and medium enterprises (SMEs) from larger business customers, bringing SMEs more in line with consumer regulation, and ultimately offering them greater regulatory protection.