On 17 October 2018 the PRA published Policy Statement (“PS”) - PS25/18 “Solvency II : External audit of the public disclosure requirement”. This should be read in conjunction with the Supervisory Statement SS 11/16 and the External Audit Part of the PRA Rulebook. This PS was in response to a consultation paper issued in April 2018 to which the PRA received 22 representations.
The PS summarises the representations made to the PRA and its responses. The representations received were in respect of areas including the definition of small insurers, volatility in application of the exemption, and timing of the small insurer determination.
This PS is relevant to all UK Solvency II firms (including mutuals), their auditors and the users of Solvency and Financial Condition Reports (SFCRs).
- As a result of the representations, the PRA have amended the rules to clarify that the values used in the reporting templates should be converted to GBP (where they are not already prepared in GBP) for the purpose of calculating a firm’s score.
- The PRA has also corrected an inconsistency in the definition of life insurance Gross Written Premiums (GWP).
- As a result of the representations, the PRA has also introduced a “two year smoothing” rule which will help avoid volatility in applying the definition of a small insurer – this does not apply to an insurer’s first year after the effective date but will apply subsequently. As a result, a firm will no longer require an audit of the SFCR if it remains a small insurer for audit purposes for two consecutive years, and a firm will need to have its SFCR audited only if it is above the threshold for two consecutive years.
- Whilst not changing the PRA’s expectations of small insurers, in response to the representations it has made some minor amendments and editorial corrections to the Supervisory Statement SS 11/16.
How will this work
An insurer will be exempt from the external audit requirement of the SFCR relating to a financial year ending on or after 15 November 2018 (but before 15 November 2019) if it has a ‘score’ of less than 100.
An insurer will be exempt from the external audit requirement of the SFCR relating to a financial year ending on or after 15 November 2019 where its score is less than 100 for the two most recent financial year ends or if its score is greater than 100 for the most recent year but was less than 100 for the immediately preceding financial year end.
The PRA has confirmed that the above metric is designed to reflect the relative significance of different insurance metrics in determining this risk, and are normalised to set a threshold at 100. This threshold would exempt those firms that tended to experience higher than anticipated SFCR audit costs as a proportion of their GWP have fewer SFCR users and pose at most only a limited risk to the PRA’s objectives. The PRA estimates that these changes will remove the audit requirement from more than 150 smaller insurers and groups.
The PRA has removed the audit requirements in respect of the SFCRs for any insurer that meets the definition of a ‘small firm for external audit purposes’ and of any group that meets the definition of a ‘small group for external audit purposes’ for financial years ending on or after 15 November 2018.
What is a ‘small firm for external audit purposes’?
For the relevant financial year (the first for many insurers will be 31 December 2018), the score is the sum of the below four components and is calculated by multiplying GWP and gross best estimate liabilities (BEL) by defined factors as below (all expressed in pounds sterling / converted into pounds sterling using the “as at” Bank of England daily spot exchange rate):
- For general insurance GWP the factor is 6.71 x 10-7
- For general insurance BEL the factor is 3.97 x 10-8
- For life insurance GWP the factor is 3.11 x 10-7
- For life insurance BEL the factor is 1.18 x 10-8
What is a ‘small group for external audit purposes’?
This would be where every UK insurer in the group is exempt from audit due to being a small firm, and as such the group is also deemed to be a small firm. Hence, the group SFCR will also be exempt from audit.
The following demonstrates levels below which a score of 100 will result and allow the SFCR to not be audited.
On this basis a pure general insurer with less than £140m in GWP and holding BEL also of less than £140m would get a score of below 100. The interaction of premiums and liabilities is such that if liabilities were nil, then £149m of premium could be written and produce a score below 100, whereas if liabilities were £2.0bn only £30m of premium could be written to produce a score below 100. A run-off pure general insurer having no written premiums with BEL up to £2.5bn would also score below 100.
A pure life insurer with GWP below £200m and gross BEL of below £3.0bn would score below 100. The interaction of the two factors is such that if liabilities were nil, then £320m of written premium would still produce a score below 100, alternatively if liabilities were £6.0bn only £93m of premium could be written to score less than 100. For a run-off pure life insurer with no written premiums, any BEL of up to £8.4bn would get a score of below 100.
It is the responsibility of the firm to determine whether the SFCR audit exemption would apply. We would encourage firms to do the calculations as soon as possible and discuss it with your auditors as part of the 2018 audit planning cycle. There will be some insurers who will still continue to seek assurance on their SFCRs in order for their Board and Audit Committees to have confidence in the compliance as well as those who may use the SII technical provisions in their audited statutory accounts. These firms should consider whether such assurance can be provided via other options such as Agreed Upon Procedures or under International Standard on Assurance Engagements (ISAE) 3000 (Revised) “Assurance Engagements Other Than Audits or Reviews of Historical Financial Information” and whether such assurance can be provided in a cost effective manner by alternative service providers other than your primary statutory auditors. Also where such assurance on the SFCR is not required by regulation, the appropriateness of statutory auditors also providing such a review service will need to be considered.
The updated Supervisory Statement and External Audit Part of the PRA Rulebook is applicable for financial years ending on or after 15 November 2018.
External Audit Part of the PRA Rulebook: https://www.bankofengland.co.uk/-/media/boe/files/prudential-regulation/policy-statement/2018/ps2518app1.pdf?la=en&hash=C7A3F96A4834788258F0D987CAE3BE14E69E9189
Director – Financial Services
Phone +44 (0)20 7516 2290
Partner – Financial Services
Phone +44 (0)20 7516 2290