In the not-so-distant past, offshore financial centres ("OFCs") were perceived as having a very light touch when it came to taking enforcement action against regulated entities and individuals. "Deliberately toothless" was how one well-known commentator described offshore regulatory enforcement activity as recently as 2013, the implication being that OFCs avoided tough regulatory action for fear that it could drive business to competitor OFCs. Even when regulatory enforcement action was taken, and sanctions were imposed, the target was often afforded anonymity by the regulator. But offshore regulators have now grown teeth — and a voice — and are anxious to use them.
In the past year, OFCs, including the BVI, Cayman Islands, Bermuda and the Channel Islands have seen several well-publicized instances of regulatory sanctions, together with legislative amendments and pronouncements signaling a tough new approach to regulatory infractions, with "naming and shaming" part of the punishment.
Driving the changed regulatory environment in OFCs, at least in part, is the increased attention paid by onshore governments, regulators, international bodies and the media to business practices in OFCs. This includes measures recommended by the inter-governmental body, the Financial Action Task Force, to combat money laundering and terrorist financing with comprehensive external reviews of OFCs taking place over the next few years to determine their level of compliance. The consequences to OFCs of non-compliance will be severe, prompting regulators to take tough action to demonstrate the robustness of the jurisdiction's regulatory framework and their effectiveness in punishing regulatory breaches.
While the fines imposed can be severe, these are often matched or exceeded by the legal costs of contesting enforcement actions or negotiating with the regulator. But even these costs can pale in comparison to the damage resulting from adverse publicity or the loss of a valuable business license, not to mention hundreds of management hours taken up in responding to a regulatory investigation or prosecution.
Increased regulatory muscle has led to an increased demand for insurance cover in respect of the consequences of regulatory action. Traditional professional indemnity, errors and omissions and directors and officers liability insurance policies responded to claims for "damages" sought by third parties and often did not provide any coverage for administrative actions. While most such policies now include limited cover for administrative actions as part of the standard package, the scope of cover may be narrowly drawn and cover for fines and penalties is generally excluded.
As is often the case, you get what you pay for and broader regulatory cover is available in the insurance markets, but at a price.
A standard insurance policy may provide cover for costs incurred by the "target" of a "formal" regulatory prosecution. However, regulatory actions very often start in an informal manner and months of investigations, with consequent information and interview requests, may ensue before any formal proceedings are filed. For example, it is not uncommon for enforcement actions by the United States Securities and Exchange Commission to be commenced on the same day that a settlement is consummated. If an insured wants cover for informal, as well as formal, regulatory investigations it may need to negotiate a policy endorsement to obtain broader cover.
Often, the target of a regulatory investigation or proceeding will be a current or former employee or director of the regulated entity. However, the entity may be required, or compelled, to provide extensive assistance to the regulator in terms of providing documents, computer files or employees for interviews. The company may also need to retain the services of forensic accountants to compile information for the regulator and external counsel to interface with the regulator and to represent testifying witnesses. Potentially, these costs can run into several millions of dollars yet may fall outside the scope of a standard insurance policy as the entity itself is not a target of the enforcement action. Again, if an insured is looking for this type of broad cover it may need to purchase an appropriate extension to its policy.
Traditionally, fines and penalties were expressly excluded from the scope of insurance policies, consistent with the view that criminal fines and penalties are uninsurable in most jurisdictions as a matter of public policy. However, the increased prevalence of administrative fines and penalties, which are not always regarded as objectionable in public policy terms, has resulted in the re-writing of many insurance policies to provide cover for fines and penalties "where insurable".
The question as to whether administrative fines and penalties are "insurable" as a matter of public policy is a classic legal "grey area" and determining insurability will require an analysis of the particular sanction imposed and the underlying conduct giving rise to it. In the English Court of Appeal decision in Safeway v Twigger (2010) the court found that "morally reprehensible" acts are uninsurable. The court did not give much guidance as to what amounts to "morally reprehensible" but clearly it captures conduct that falls short of "intentional illegality". In that case, the court also found that the regulatory fine in question was uninsurable as a matter of English law even though the regulated company's liability was vicarious (i.e., not direct) by reason of its liability for the acts of its employees.
The Safeway decision is not applicable to insurance policies that are governed by systems of law other than English law. Nor is the decision binding on the courts of OFCs, which may, for example, choose to take a more liberal approach to insurability such as that of the first instance judge in Safeway, who held that public policy did not bar insurance coverage for the vicarious liability of the sanctioned corporation.
Another bar to the insurance of regulatory fines and penalties may lie within the statute giving rise to the sanction, which may expressly prohibit indemnification including through insurance. Some regulators have also been known to insist, as a condition of the settlement of enforcement proceedings, that the sanctioned entity or individual agree not to seek an insurance recovery for the fine or penalty.
While difficult questions arise in the context of insurance claims involving regulatory fines and penalties, it seems clear that claims activity will remain strong in relation to regulated insureds in OFCs and those insureds would be wise to review their policies with their insurance broker to ensure they understand the options available.
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.