Tim Goggin explains how Part VII provides a mechanism to transfer books of business without involving policyholders
The use of Part VII of the Financial Services and Markets Act 2000 to effect insurance business transfers has become increasingly widespread, with over 40 transfers completed in the last 18 months alone.
Put at its simplest, Part VII provides a mechanism under which an English court can order that a portfolio of insurance contracts written by one insurer will be transferred to another on a specified date without any individual policyholder consents having to be obtained.
For companies which are continuing to write new business, but also seeking to consolidate their European operations or to move within Europe, there are now other ways to do it, other than the Part VII route.
It is possible to merge two EEA insurers which are public companies to form a European company (also known as a Societas Europaea or ‘SE’). And by December this year the possibility of cross-border mergers will also exist for private companies under the EU’s crossborder mergers directive.
Those mechanisms may be well and good for transferring an entire company, but to transfer part of a company’s operations, Part VII is the tool for the job.
And with the advent of Solvency II, the packaging and disposal of particular books of business will be on the increase. They will want to get out of volatile lines of business to secure better capital treatment in an era when capital requirements are more closely aligned to the risk profile of a group’s business.
For run-off, Part VII often has clear advantages over rival exit strategy tools. A Part VII transfer allows one insurer to transfer a portfolio of policies to another without having to get individual policyholder consents.
Primary liability for the policy is removed from the balance sheet of the company transferring the business; it is as if it never wrote the policy. The company taking on the new business takes on all the risks.
Compare that to a firm seeking to achieve finality through 100% reinsurance. If it cedes a risk of 100%, it acquires the credit risk of the reinsurer not being there when it comes to make the claim (which it might want to bring decades from now).
Does the reinsurer’s AA or AAA rating speak for its position in 20 years’ time?
Part VII also compares well with commutations, where much time and expense is involved in having to deal with individual policyholders or cedants. It would be a considerable corporate success if commutations were used to achieve a complete exit.
How does it compare with the solvent scheme? The difficulties for solvent schemes following the case of the British Aviation Insurance Company where creditors opposed a scheme of arrangement, have been widely discussed.
The main difference between a Part VII and a scheme of arrangement is that a scheme involves a compromise of policyholders’ claims. Under Part VII generally no claim is compromised. It is just transferred elsewhere. So there can be no argument that a Part VII is forcing policyholders to take back risk that they thought they had transferred to an insurer. So Part VII should be a less contentious procedure in most cases.
“A Part VII transfer allows one insurer to transfer a portfolio of policies to another without having to get individual policyholder consents
Earlier this year the court sanctioned the transfer of four international books of reinsurance business from Sompo Japan Insurance to Transfercom , a subsidiary of Berkshire Hathaway formed specifically to receive the transfer.
The books of business in question were originally written by Sompo in Japan at a time when Sompo did not have a branch in the UK, although the majority of the business was broked in the London market.
Each of the books consisted of contracts with cedants in a number of different jurisdictions. Sompo relocated the business from Tokyo to its London branch in January 2006.
The judge confirmed that he had jurisdiction to sanction a transfer in these circumstances, and that given the proportion of the business governed by English law he was prepared to exercise his discretion to sanction the scheme, even though a significant proportion of the transferring contracts were governed by other jurisdictions .
This is a helpful judgment for the London market, where business to be transferred will often have an international element, and for those outside London who wish to use Part VII to exit books of international business they have written.
The reinsurance directive has to be implemented by all member states by 10 December 2007.
It requires each member state to provide a mechanism that allows a reinsurer in one member state to transfer its business to a reinsurer in another in a manner which binds cedants throughout the EEA.
The Treasury issued a consultation paper last week on how the UK will implement this: it is proposing to implement the directive in a way which will narrow Part VII’s scope.
A transfer of reinsurance business carried on by a UK branch of a pure reinsurer incorporated in another EEA state will no longer fall within the court’s jurisdiction under Part VII, falling instead within the jurisdiction of the reinsurer’s home state regulator.
The position is different for an EEA firm which writes both direct and reinsurance business, which will still be able to avail itself of Part VII for the reinsurance business of its UK branch.
The Treasury has also been consulting on some other proposed reforms to Part VII. First is to amend the way that a Lloyd’s member is defined to allow those who ceased underwriting before 23 December 1996 to use Part VII (rather important for Phase 2 of the Equitas deal).
Also it wants to make clear that outwards reinsurance can transfer (which few in the market has doubted for about four years). It is of course useful to have this on the statute book.
Tim Goggin is a partner inLovells corporate insurancepractice