A number of major insurers have been among the first to announce that they have Brexit plans and—more interestingly—that they've decided where these plans will take them. And it's no small number: a recent survey found that over 40% of UK insurance firms intend to change their operation models following the UK's exit from the European Union.1

Moving house, however, triggers questions of substance. What's the adequate level of substance for insurance companies in a new country? This is, paradoxically, both an easy and a tricky question: easy because the answer is simply that an adequate level of economic substance is that which is suitable, proportionate and appropriate to the insurance business performed. Tricky because what does that mean, exactly?

Role of the managing director (dirigeant agréé)

In a regulated environment like the insurance sector, having an adequate level of economic substance depends largely on regulatory requirements.

Under article 273 of the Law of 7 December 2015 on the insurance sector, each Luxembourg insurance undertaking and each branch of a foreign insurance undertaking must be headed by an officer (called the managing director or dirigeant agréé) who has been approved by the Minister responsible for supervision of the insurance sector. Ensuring the worthiness and competence of applicants for this status is, in practice, the job of the authority supervising the insurance/reinsurance sector. That would be the Commissariat aux Assurances (CAA).

This provision ensures that the undertakings in question are headed by persons who fulfil the qualification and good repute requirements for the proper management of the insurance undertaking, as well as for safeguarding policyholders' interests. It also aims to facilitate communication with the supervisory authority, the authorised officer being responsible for all contact between the insurance company and the CAA.

Being true to Solvency II

Furthermore, with the introduction of the Solvency II Directive, European insurance companies have to meet many new requirements. On top of the quantitative requirements foreseen in the first pillar of the Solvency II Directive and the disclosure obligations provided in the third one, the second pillar contains requirements relating to the way insurers organise their businesses. In this context, insurance companies must have an effective system of governance in place to provide for sound and prudent management. Specifically, they must have four key functions in place:

  • Risk management
  • Compliance
  • Internal audit
  • Actuarial

A "function", in Solvency II Directive terms, means the internal capacity to undertake practical tasks. Executors of these functions must meet the "fit and proper" requirements, comply with certain reporting requirements, and be able to perform their tasks and exercise the authorities given to them.

Although it is in principle required that the managing director and most of executors of the above four key functions are resident in Luxembourg (or potentially in one of its neighbours in the Grande Région), it is conceivable that in certain cases one of the executors of the above four key functions is not.

More generally, it appears that the delegation of certain tasks intra-group or to third parties is permitted. This kind of delegation can even be considered as forming part of the DNA of the Luxembourg financial sector. Indeed, as a result of the Luxembourg market's limited size, alongside the country's longstanding European history, Luxembourg's financial sector (including its insurance sector) has long gone to the European and International markets to both acquire and sell goods/services.

Be wise: analyse

A detailed analysis of which tasks/roles can be delegated in which situations (even those of the executors of the aforementioned four key Solvency II functions) must be performed on a case-by-case basis and be ultimately validated by the CAA. This analysis must consider various factors like the business performed, the business plan, and the current organisation of the group (including the delegation of certain tasks before the Brexit move and the structure pre- and post-Brexit, i.e. as pertains to subsidiaries, branches, services performed under freedom to provide services, etc.) How to best balance these factors whilst considering the global picture will take experience and market intelligence. It will also be informed by the fact that the adequate level of substance will increase proportionally to the business. What's "adequate" on day one might, 4-5 years later, no longer be, if (and only if) the business has significantly developed in the meantime. This is in line with the current practice of the CAA.

What about tax?

It's generally said that what's adequate from a regulatory perspective should also be adequate from a tax perspective, since the tax law does not require certain functions/roles to be exercised by persons resident in Luxembourg or its neighbours. This statement remains largely true today. However, the economic substance requirements for tax purposes have increased, and will continue to do so, in light of the ongoing implementation of the action plan on Base Erosion and Profit Shifting (BEPS) developed by the Organisation for Economic Co-operation and Development (OECD). Besides having to have employees with effective management power as discussed above, some very concrete elements like the storage of financial statements and archives, appropriate business offices and furniture, physical locations of board meetings, and others, have become elements worth considering.


1. Moore Stephens, quoted by the American Insurance Association, 'Brexit' For Insurers

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