Compendium of Insurance Law
1
REGULATION OF INSURERS
DOMESTIC LAW
1.1 This Chapter sets out the statutory framework for the regulation of insurers. The history of the regulation of insurance companies is long but not particularly glorious. Insurance appears to be as old as trading itself, and the practice of marine insurance seems to have spread to England in the twelfth and thirteenth centuries with the development of England as a maritime and trading power. The foundation of Lloyd’s in the seventeenth century secured England’s prominence as a provider of marine insurance for both domestic and foreign purchasers, and other forms of insurance followed. Fire insurance grew in the aftermath of the Great Fire of London in 1666, and life insurance—with its origins in the various forms of mutual assistance societies—had become of some significance by the end of the eighteenth century. The industrialisation of the first half of the nineteenth century, and the winning of the battle for corporate limited liability in 1847, opened the way to what has been termed the “Golden Age of British Insurance” in the second half of the nineteenth century. This period saw the consolidation of various new forms of insurance, including personal accident insurance (brought about by the increasing use of trains), reinsurance, livestock insurance and machinery insurance. As the law of liability expanded, most importantly at the workplace, liability insurance followed. Consumer mass insurances did not of course develop until the post-Second World War period. What can be seen, therefore, is a gradual move, over a period of three centuries, from insurance as a form of protection for merchants and the privileged few, to the growth of what is probably England’s pre-eminent financial industry.1.2 The legislature, from the origins of insurance to the present day, has allowed the industry to prosper with intervention kept to a bare minimum. In its origins, regulation was concerned to prevent frauds and undesirable practices of various types: the Marine Insurance Act 1745 banned marine policies made without interest, thereby putting an end to institutionalised gambling on the fate of vessels; the Life Assurance Act 1774 banned the making of life policies without interest, stamping out the all too open gambling on the duration of the lives of public figures; and the Fires Prevention (Metropolis) Act 1774 inter alia sought to discourage the practice increasingly adopted by weekly tenants of wooden buildings of insuring the buildings for their full value and thereafter basking in the heat and benefits derived from their flames. These interventions aside, laissez faire remained the predominant philosophy until the last quarter of the nineteenth century.1.3 Insurance regulation as we now know it had its origins in the Life Assurance Companies Act 1870. That Act introduced a financial deposit system, under which a life insurer had to deposit a fixed sum with the Board of Trade, as a guarantee of its solvency. In due course the crude deposit system was replaced with financial solvency guaranteed by prior approval and by appropriate accounting measures. Over the following decades the intensity of insurance regulation increased with the growth of the market and with successive failures of insurance companies, and the system expanded successively with the Insurance Companies Act 1958, the Companies Act 1967, the Insurance Companies Act 1974, the Insurance Companies Act 1982, and, in relation to certain forms of life insurance only, the Financial Services Act 1986. The 1982 Act was a long, complex and much amended piece of legislation, many of the amendments being required by EC law. In 1997 the vast majority of regulatory functions were transferred from the Department of Trade and Industry to the Treasury. In 1998 the Treasury itself delegated its supervisory functions to a non-statutory body, the Financial Services Authority, under the Contracting Out (Functions in Relation to Insurance) Order 1998, SI 1998 No 2842, made under the Deregulation and Contracting Out Act 1994.1.4 The entire legislative structure affecting insurance companies was swept aside and replaced by the Financial Services and Markets Act 2000, although the separate legislation affecting Lloyd’s and friendly societies was retained albeit in amended form. The 2000 Act applies to all forms of financial service, and lays down detailed rules for authorisation, trading within the European Union, transfer of business, suitability of controllers and marketing. In this work we have reproduced the sections which affect insurance, many of which are of general application in the financial services sector but some of which are specific to insurance business. There is also a great deal of secondary legislation, the relevant parts of which are also reproduced. Much of the detail of the regulation of insurers is contained in the Handbook published online and in hard copy by the Financial Services Authority. The term “Handbook” is a misnomer of major proportions, as the Handbook is a substantial document which runs to many hundreds of pages. It has not been possible to reproduce the Handbook in this work, due both to its length and to the frequency of the amendments made to it.1.5 Although the focus of UK legislation is on the prevention of insolvency, the law makes specific provision for the situation in which the legislation fails and an insurer becomes insolvent. The most important provision was the Policyholders Protection Act 1975, under which a private policyholder under a UK policy was able to recover from a fund set up by the insurance industry itself and administered by the Policyholders Protection Board all of the loss (in the case of compulsory insurance) or 90 per cent of the loss (for non-compulsory insurances). Test cases brought before the House of Lords in 1993 under the 1975 Act brought to light a number of problems with its application, indicating in particular that the Act was wider than at first thought in that it covered non-UK policyholders provided that their policies formed part of an insurer’s portfolio of UK insurance business.1.6 Consequently, in 1994, the Department of Trade and Industry published a Consultative Document putting forward for discussion a series of proposed amendments. The recommendations were for the most part adopted by amending legislation, the Policyholders Protection Act 1997, but that Act was never brought into force. The FSMA 2000 repealed both the 1975 and 1997 Acts and replaced them with a new Financial Services Compensation Scheme.1.7 Where an insurer has become insolvent, any policyholder who does not qualify for full payment under the Scheme may prove for his loss, or that part of it not met under the Scheme, in the insurer’s liquidation. In the case of a policyholder who has not suffered a loss under the policy, but has been deprived of the unexpired period of cover or (under a life policy) other accrued rights, the assured may prove in the insurer’s liquidation for such loss, as measured by the Insurers (Winding up) Rules 2001, SI 2001 No 3635. The distribution of an insolvent insurer’s assets has also been the subject of statutory intervention based on EU requirements, the Insurers (Reorganisation and Winding Up) Regulations 2004, SI 2004 No 353 (extended to Lloyd’s by the Insurers (Reorganisation and Winding Up) (Lloyd’s) Regulations 2005, SI 2005 No 1998) giving priority to policyholders over other unsecured creditors.1.8 It is perhaps an oversimplification, but one which nevertheless contains a good deal of truth, to say that much of the succeeding regulatory insurance legislation was in response to particular and spectacular collapses. Two points nevertheless emerge. The first is that the thrust of regulation was in 1870, and remains today under the FSMA 2000, the preservation of the solvency of insurers. The second, which follows logically from the first, is that—in line with the approach taken to other contracts—legislation has largely been unconcerned with how insurers treat their policyholders: insurers’ ability to pay, rather than their willingness to do so, has governed the legislature’s approach. Intervention into the contractual relationship has been isolated. Illustrations are: the Third Parties (Rights against Insurers) Act 1930, which requires the liability insurer of an insolvent assured to make payment to the assured’s victim; the Employers Liability (Compulsory Insurance) Act 1969, which makes employers’ liability insurance compulsory and regulates certain contract terms; and the Road Traffic Act 1988 (dating back to 1930), which makes motor vehicle insurance compulsory and in effect rewrites motor insurance contracts by stripping the insurer of most defences in respect of a loss incurred by a third party. The 2000 Act does, however, provide for limited intervention with the contractual relationship, the FSA Handbook setting out general principles of claims-handling which replace previous voluntary controls.THE IMPACT OF THE EC
1.9 Although the system of insurance regulation was comparatively well developed in the UK by the 1970s perhaps the greatest influence on the modern development of regulation has been the European Community’s Single Insurance Market programme, which was initiated in 1973 and which was more or less completed on 1 July 1994. Two of the key principles underlying the concept of a single market and set out in the Treaty of Rome 1957, are: (a) the right of establishment, whereby a person located in one member state is entitled to become established and to trade in another member state; and (b) the freedom to provide services, whereby a person located in one member state is entitled to supply services to persons in other member states without having to become established in those states. The earliest attempts to introduce these principles into the insurance market back in the early 1970s were met by the problem that all member states operated a system of prior authorisation and subsequent financial supervision of insurers, which meant that an insurer located in one member state but which wished to operate in another member state either through an establishment or by provision by way of services, would have to comply with the domestic laws of every other member state in which it sought to trade. It thus became necessary to find a way of removing national barriers to freedom of trade. This was achieved by the EC over two decades, primarily by three distinct generations of insurance directives, non-life and life insurance being treated separately.1.10 The development of the EC regime is traced in detail in the annotations in this chapter, and is summarised here. The First Non-Life Directive in 1973 and the First Life Directive in 1979 had the limited effect of securing freedom of establishment: an insurer with its head office in one member state was to be permitted to create an establishment in any other member state, provided that the establishment complied with the domestic rules of the host state, including authorisation. Before any further liberalisation could occur, in 1985 a series of four cases, collectively known as the Insurance Cases, came before the European Court of Justice: Commission v. Germany Case 205/84, [1987] 2 CMLR 69; Commission v. France Case 220/83, [1987] 2 CMLR 113; Commission v. Ireland Case 206/84, [1987] 2 CMLR 140; Commission v. Denmark Case 252/83, [1987] 2 CMLR 169. These cases arose from the Co-Insurance Directive of 1978, a relatively modest measure which extended to co-insurance the rules on technical reserves and matching rules applicable to non-life insurance. The issues which arose in these cases, and the replies of the European Court of Justice, were as follows.- (a) Could the law of a member state provide that, where the risk was located in that member state, the leading insurer in any co-insurance arrangement had to be established and authorised in that member state? The Court held that the law could not so demand, and that it was enough for the leading co-insurer to be authorised and established in any EC member state.
- (b) Could the law of a member state provide that intermediaries in that member state could arrange risks located in that state only with an insurer authorised and established in that state? The Court held that:
- (1) an insurer established and authorised in a member state was entitled to become established in any other member state provided that it complied with the regulatory laws of that state;
- (2) an insurer authorised and established in one member state was entitled to sell insurance into another EC member state without becoming established in the host state by means of a branch or subsidiary;
- (3) an insurer authorised and established in one member state was entitled to sell insurance into another EC member state without the authorisation of the host state’s authorities, subject to the consideration that the host state had the right to impose an authorisation requirement to protect consumers.
- (c) Could a member state impose minimum financial threshold requirements for co-insurance arrangements. The Court ruled that this was permissible, and the Co-Insurance Directive was accordingly amended by the Second Non-Life Directive to permit this to occur.
- (d) Could a member state impose upon its own insurers an obligation to seek its authorisation for them to carry on insurance business elsewhere in the EC? The Court upheld this requirement.
- (a) the regulatory structure affecting insurance companies as applied by each member state has been harmonised;
- (b) an insurer with its head office in an EC member state must seek authorisation from the regulatory authorities of that member state, and such authorisation operates as a Single European Licence, allowing that insurer to become established in any other member state or to sell insurance directly into that member state without seeking authorisation from its domestic regulatory authorities;
- (c) the EC-wide operations of an insurer are to be governed by the regulatory authorities of its home state—the solvency margin is, for example, to be looked at on an EC-wide basis and not merely on a purely home country basis;
- (d) regulation has been confined to solvency and its necessary attributes—those EC member states which previously exercised “material control” over insurers (regulating policy terms and premium levels) were required to abandon those controls, bringing them into line with the traditional UK approach to regulation.
1.20 LLOYD’S ACT 1871
(34 Vict. c. xxi)