The Solvency II Directive (Directive 2009/138/EC) was transposed into domestic Irish law by the European Union (Insurance and Reinsurance) Regulations 2015, which came into force on 1 January 2016. The Solvency II regime provides clarity as to the functions an insurer may outsource and the requirements that must be complied with prior to outsourcing. This is particularly welcome news for captive insurers who tend to rely heavily on outsource service providers.
Outsourcing of critical or important functions or activities
Where a critical or important function or activity is being outsourced, prior notification must be made to the Central Bank in a timely manner (at least six weeks before the outsourcing is due to come into effect). Notification must also be made where there are subsequent material developments with respect to the outsourced functions or activities. In determining whether an outsourced function or activity is critical or important, the undertaking should assess whether it is essential to its operation and whether it would be unable to deliver its services to policyholders without it.
Under the Solvency II Regime, any outsourcing must not (i) materially impair the undertaking's system of governance, (ii) cause an undue increase in operational risk, (iii) impair the supervisory monitoring of compliance with obligations or (iv) undermine continuous and satisfactory service to policyholders.
Insurers intending to engage in outsourcing must ensure they have written outsourcing policies in place. These policies must be reviewed at least on an annual basis and adapted in view of any significant changes. The policies and any amendments thereto must be subject to prior approval by the board of directors of the insurer.
Consideration of appropriate factors
In all cases where critical or important functions or activities are to be outsourced, a written outsourcing agreement must be entered into with the outsource service provider. This written agreement will provide the required evidence to the Central Bank that all key factors have been taken into account. The insurer must also provide evidence that it has carried out a fitness and probity assessment and appropriate due diligence in respect of the outsource service provider.
Key factors which should be contained in a written outsourcing agreement include:
- Clear definitions of the duties and responsibilities of both parties
- The duration of the outsourcing
- Requirements that the service provider comply with all applicable laws, regulatory requirements and guidelines and cooperate with the undertaking's supervisory authority
- An obligation that the service provider discloses any development which may have a material impact on its ability to carry out the outsourced functions and activities
- Termination periods sufficient to prevent detriment to the continuity and quality of service
- A right for the insurer to be informed about the outsourced functions and activities and their performance by the service provider as well as a right to issue general guidelines and individual instructions
- Effective access by the insurer, its external auditor and the Central Bank to all information on the outsourced functions and activities and permission to conduct on-site inspections
- The ability for the Central Bank to address questions directly to the service provider to which they will reply
- The terms and conditions of any sub-outsourcing the service provider may carry out.
The certainty provided by the Solvency II regime is good news for captive insurers. It clarifies the requirements for outsourcing, and the factors which must be considered by an insurer prior to entering into an outsourcing agreement. It is vital, however, for insurers to check their existing outsourcing agreements and to confirm that these meet all relevant Solvency II requirements and include the required key provisions.
This article first appeared in the Captive Review Dublin Report 2016.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.