Solvency ii Association

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Dear member, Today we will start from a very interesting interview with Gabriel Bernardino, Chairman of E IOPA

Interview with Gabriel Bernardino, Chairman of EIOPA
conducted by Anke Dembowski, I nstitutional Money (Germany)

Insurance companies vs. Occupational Retirement Provision (IORPs)
EIOPA has submitted its advice for the Occupational Retirement Provision (IORP)'directive on 15th of February 2012. What is EIOPA's standpoint in this advice?
The intention is not to have a copy - paste exercise between Solvency I I and the pensions directive. The intention is to find out the elements that in terms of risk are similar between those two. If risks are similar, you should treat them in a consistent way.

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And if risks are different, you should treat them in a different way. That’s what we advocate in this advice.

Which are the main differences between pensions and the insurance system?
One of the differences is the type of involvement the sponsor company, i.e. the employer has in the pension fund. If there is a need for more capital within an insurance company, the shareholders are often subject to a limited liability regime. This is different in the pension fund area. Here, you don't have a transfer of the risk to the pension fund.

The fund is only a vehicle to finance the responsibilities of the employer. Consequently, if there is a need for capital, the employer may be required by social and labour law to put the money in.

You want to introduce a holistic balance sheet. How does that look like?
At the regulation level, we need to take these differences into account. That's why we are trying to develop the concept of a holistic balance sheet, where we integrate not only the market value of the assets, but also the economic value of the liabilities. In addition, we are integrating other elements that take account of the specificities of the pension area. And there are different elements in each country. For example, the Dutch system, where you have the possibility to cut back the pension benefits retroactively.

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Or take the systems where you can reduce the indexations of the pensions for the future, et cetera. These specifications have an effect on the value of the liabilities, and you need to take it into account for the holistic balance sheet.

And which similarities do you see between pensions and insurance companies?
For example, all the elements about governance, risk management and transparency. We firmly believe that the sound principles of Solvency I I can also be applied in a context of pension funds - provided of course, that you take into account the necessary proportionality.

We are aware that there are many pension schemes that are quite small and that we cannot fully apply in a mechanistic way all the good principles of governance, risk management and control to them.

What is the timeframe for the Solvency I I and the pension directive?
Solvency I I has already been discussed for many years and we are now in the last phases of implementing measures. We intend to have the Solvency I I framework implemented in 2014. On the I ORP side, the process is still at an early stage. As you have mentioned in the beginning, the European Commission has asked us a long list of questions in a call for advice and we have answered them, on 15th of February. We believe that several tests need to be made, especially on the calculation of the technical provisions and of the solvency requirements.

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So we want to run the first quantitative impact study (QIS) on the pension side soon.

Will those QIS'studies be similar to the ones that you have done on the insurance side?
Again, there are some elements that are common, but some different elements will be coming from the holistic balance sheet approach. And also the process in itself is going to be different. In the insurance QIS we tried to capture most of the insurance market in Europe. But it is not the case for pensions, because the pensions market is so diverse across the 27 EU member countries. Therefore, we are going to conduct the first QI S study only in those seven countries where defined benefit plans are more relevant: Germany, UK, I reland, the Netherlands, Portugal, Sweden, and Belgium. We are working on the common technical specifications to be applied in the test and will discuss the timeline with the European Commission. The Commission intends to have a first schedule for proposal on the revised I ORP Directive by the end of this year.

And what qualitative measures are necessary for pension funds?
Also pension funds need to have a liquidity assessment and a management of their liquidity needs. This is part of the qualitative pillar I I requirements. But making an analysis of ones liquidity needs is part of common good management rules anyway.
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Of course, a pension fund needs to know the pensions it has to pay in the years to come and what its revenues from the assets will be. Only then the fund can try to match those two and try to avoid surprises.

2. Investment issues for insurance companies
Insurance companies have been refinancing banks in the past, and we cannot see banks isolated from insurance companies. Basel I II regulation is now forcing banks to hold higher equity ratios. Will insurance companies under Solvency I I be able to refinance banks as they used to in the past?
Well, it is not the purpose of insurance companies to finance banks. The purpose of insurance companies is to have good products for their customers and to provide long term security for their customers. Solvency I I will not force insurance companies to only buy one type of assets. But it is clear: The more stability you have in the banking sector, the better it will be from the risk perspective to invest into banks. It is normal that when banks are in a stress situation, or when there are doubts about their capital capacity, investors - not only insurance companies - refrain from investing long term into banks.

With the elements that have been introduced about recapitalizing the banking sector, I believe that in the future, insurers will come back to finance banks.

So EIOPA's intention is not to disconnect the insurance and the banking sector in order to reduce cyclical ties?
No, with Solvency I I or any kind of regulatory regime we are not trying to intervene in that sense.

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But what we want to do is to introduce a risk based system. We say that the more risk an insurance company has, the better capitalized it must be. We do not say 'don't invest into risky assets' or 'only invest into sovereign bonds' - that is not up to the supervisors. We only say that the capital has to commensurate with the risk. An insurance company can have a bigger risk appetite, but then on the other side, it needs to provide more capital. That is a fundamental element in the whole financial system.

Will Solvency II have an effect on the products that insurance companies will offer?
I believe that with Solvency I I consumers will continue to have choice between different products, with different types of guarantees and liquidity characteristics. If an insurance company creates liabilities which attract more risk - for example if it wants to offer products with a guaranteed interest rate for 20, 30 or 40 years, it can do that, because consumers value those products. But the risk involved needs to be priced correctly. We must not bring risk into the system without pricing it well. I think that this is the lesson we clearly learned from the financial crisis.

What exactly was the lesson the insurance sector learned from the financial crisis?

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In the banking sector we have seen that there was poor underwriting on the subprime business, where risks were brought into the system without being priced correctly. We have also seen that if you bring risk into the system, it will never disappear, no matter how much packaging and re-selling you do with it. The risk remains there and you need to manage it. If it is not well priced, someone will pay in the end, either the companies, the consumers or the taxpayer.

Does the regulation intend to reduce the risk to a minimum?
No! When the financial system is risk averse, the economy will not work. Look what the insurers are doing for us as individuals: We transfer our risks to them. Insurers by definition cannot be risk averse, because dealing with risk and managing is their core business. As regulators, our duty for the society is to have a good balance between security and growth. If you want to have a system with 100 Percent security, it will be unaffordable.

So I am not advocating that we have capital requirements that are bulletproof.
In Solvency I I, we are building a system based on a with a 99.5 percent confidence level.

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But in an extreme situation, an insurance company can become insolvent. What we want to assure is that insurers will have excellent risk management systems that will help them to manage prudently their risks.

Looking at the low interest environment: Do you think that life insurance companies will need to change their business models, for example to avoid the long guarantees that stretch over the lifetime of a man?
Yes, we will probably see some changes in the products. But it is not because we are applying Solvency I I , that long lasting guarantees are problematic - the products exist already. What Solvency I I brings, is more market consistent pricing of risk, so that we can see clearer where the difficulties could lie when going forward. Some of the risks of long lasting guarantees need to be better assessed, and probably some of these products will cost a bit more in the future.

What happens if an insurance company falls below the solvency capital requirement?
Then the supervisor and the insurance company will need to maintain a close dialogue, and together they analyze the reasons behind it. The company will have to present a plan how it intends to recover its capital or reduce its risk. So this approach is anti-cyclical. The company does not immediately need to reinforce capital, as this would have a procyclical effect on the market.
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However, if things continue to go wrong and the capital falls below the minimum capital requirement, the supervisor has the duty to close the business and in drastic situations even to close the company, because then the policy holders' rights are at stake. The system is designed in a way that it is not a safe heaven, it’s not a zero failure system, but it has different levels of protection.

How does transparency help investors?
From the investor's perspective, Solvency I I is a system that gives far better information to decide on an investment.

That is the biggest added value a regulatory regime can have.
The worst thing would be to give an incentive to hide the risk. In the current system, the solvency figures in the insurance sector are completely stable, as they are not based on the market value of the assets. But we all know that markets are volatile, so investors feel that something is wrong. Under Solvency I I, the solvency capital requirements will be more volatile. You can have a situation where in one quarter you have 160 percent of your capital requirements, and in the next quarter only 120 percent.

Is more transparency always better?
Under the Solvency I I regime, insurance companies will be disclosing more information, and the information given will be much more linked to the reality of the risks and the markets. At first sight, it will seem that figures are more volatile, but this is due to the higher transparency we will have, not because the insurance company has intrinsically a more volatile business.
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We as supervisors know this, and we hope that analysts and investors will understand this as well and will not penalize insurance companies by higher cost of capital.

Under the current Solvency I I ' regime, government bonds from OECD countries do not have any capital requirements at all. This seems a bit odd, considering the problems that some European countries are currently facing. What is the reason why capital requirements for government bonds are not pegged to their rating, like it is the case for corporate bonds? And are there plans that this policy will be changed in the future or is that a very political issue?
Before the euro area debt crisis government bonds were widely considered as risk free instruments that is why there was no need to peg capital requirements for government bonds to their rating.

Naturally in this area as in others the perception of risk is constantly evolving and so I believe that in the future we need to explore ways to deal more properly with the risks of sovereign exposures and find a suitable way to integrate them in the overall risk-based framework.

Should the insurance supervision be directive or pre-emptive?
We want to have a supervisory system where we capture things in advance. We do not want to be like firemen that arrive when there is already a fire. We want to see things in advance and to avoid the fires. This is preventive supervision.

What gives you sleepless nights at the moment?

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I think that the overall market situation certainly worries all of us because it definitely has an impact on the whole financial system. Insurers basically need two things: Stability of the markets and a well functioning economy. This also includes a certain level of interest rates, so that insurance companies can fulfil their role of providing long term guarantees. Having the low interest rates we are seeing now, is of course a difficult situation for insurance companies. But … I am still sleeping well.

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EIOPA - Report on Good Practices for Disclosure and Selling of Variable Annuities
1.This Report summarises the findings of an Expert Group, set up in May 2011 under the auspices of EIOPA’s Committee on Consumer Protection and Financial Innovation (CCPFI) with the aim of establishing good disclosure and selling practices for variable annuities (VA).

2.It seeks to inform the debate on variable annuities from a consumer protection perspective with the aim of promoting common supervisory approaches and practices.
However, it does not set forth any guidelines or recommendations. 3.The Expert Group has been able to draw on the conclusions of a previous Task Force, established by E IOPA’s predecessor, the Committee of Insurance and Occupational Pensions Supervisors (CEIOPS), which had assessed variable annuities from a prudential perspective. In addition the Expert Group has been assisted in its work by the analysis on market structure and basic product features, undertaken by EIO PA’s Financial Stability Committee. The outcome of this analysis has been published in EIOPA’s Financial Stability Report for Spring 20112. The Expert Group also benefitted from comments received during public consultation and from a Feedback Statement by EIO PA’s Insurance and Reinsurance Stakeholder Group (IRSG).
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4.In response to the losses suffered by some large insurance groups on their VA books during the recent financial crises, product characteristics have changed significantly to allow for better risk management. As a consequence of an increased focus on risk management, insurance undertakings have had to reflect the associated costs in the charging structure for variable annuity products, thus reducing the potential benefits to customers compared to pre-crises product offerings. 5.The Expert Group referenced the cross-border business model often encountered in relation to the writing and sale of variable annuities. Many large insurance groups have set up specialised subsidiaries dedicated to this business (“VA product companies”), which underwrite variable annuities in several Member States through freedom of establishment or freedom of services. The Group also considered the objectives of consumers who invest in these policies. Consumers may purchase them as a means of saving for their retirement or for investment purposes more generally as an alternative to traditional life insurance or other savings products. Both the business model and the objectives pursued by customers have a bearing on what constitutes good disclosure and selling practices. 6.Good disclosure practices attempt to ensure that customers can make their choices on an informed basis. Customers need to be informed how the product works under different market conditions, what they are charged and which options they can exercise during the life of the contract. In addition they need to be provided with some general information on the product provider, the law governing the contract and details on the relevant supervisory authorities to take account of the common crossborder business model referred to above.

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The use of “frequently asked questions” is considered to be a transparent way of communicating the relevant information. 7.Good selling practices for variable annuities have to ensure that the demands and needs of a customer are taken into account. Because of their inherent complexity, variable annuities should always be sold on an advised basis via a salesperson, which may be an insurance intermediary or an agent or employee of the insurance undertaking. To avoid the risk of misselling a number of areas, in particular, should be addressed by the salesperson.

The Expert Group has suggested an indicative list of questions that could be used in this context.
8.Finally, chapter 4.2. examines good practices by the product provider where it does not control the sales process. Insurance undertakings should still ensure that sales are adequate by, inter alia, carrying out a due diligence on the intermediary firms as well as reviewing the clients they have taken on to ensure that they are as expected regardless of who controls the sales process.

9.The main findings of the Report are that good practices
• in relation to disclosures o should provide general information on the insurance undertaking and the legal and supervisory regime it operates under to take account of the cross-border nature of this business o should also include product specific information to address product complexity

• in relation to selling practices

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o should ensure that variable annuities are always sold on an advised basis, even when they are sold directly by the company o should focus on the customer’s objectives to determine his demands and needs. 2. BACKGROUND TO THE REPORT 1. MANDATE AN D SCOPE OF WORK

Mandate
10. This Report examines, specifically in relation to variable annuities, good practices on product disclosure and selling arrangements.

These issues had not been covered by the mandate of the previous CEIOPS Task Force that focused only on prudential matters. 11. Following the adoption of the recommendations put forward by the previous Task Force, the Board of Supervisors therefore requested the Committee on Consumer Protection and Financial Innovation (CCPFI) to look into these consumer- related issues.

To this end, the CCPFI set up a subgroup (Expert Group) to assist it in its work. This exercise was informed by the potential of some variable annuities products to achieve outcomes that are not easy for the consumer to understand. 12.The Report benefitted from the comments received during public consultation and from the Feedback Statement prepared by EIOPA’s I nsurance and Reinsurance Stakeholder Group (IRSG).

Scope
13. Concerning product disclosures, the objective is to identify good practices regarding the product-specific information aimed at providing a proper understanding of the risks assumed by the policyholder in a variable annuity contract.

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These disclosure requirements apply in addition to the information that needs to be provided on the life insurance undertaking and on the commitments the undertaking assumes vis-à-vis the policyholders. 1 4 . I n this context, particular attention should be paid to the multilayered charging structure often encountered in variable annuities. 15. Concerning selling practices, the aim is to look at good practices regarding advice given to customers, which should be based on their demands and needs. Where the sales process takes place through insurance intermediaries as defined in the I MD, it has also been assessed how insurance undertakings should ensure that sales are appropriate. 16.This Report has been prepared in response to E IOPA’s monitoring role in relation to new financial activities. Variable annuities fall within the broader category of insurance contracts with an investment element. Bearing in mind that at a European level there are several legislative initiatives under way, which may have an impact on the sales of variable annuities, namely on product disclosure and on selling practices (such as the upcoming legislative proposal on Packaged Retail Investment Products –PRIPS- and the revision of the Insurance Mediation Directive -IM D), the purpose of the Report is limited to analysing good practices, to promote common supervisory approaches and practices, and to inform the debate on this topic. However, its aim is not to pre-empt the above mentioned legislative proposals nor does it set forth any guidelines or recommendations. 17.The Report has a clear product-specific focus in line with its mandate, which has driven the range of topics that have been analysed by the Expert Group.

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The scope of previous work by E IOPA’s predecessor CE IOPS in the form of technical advice to the European Commission on PRIPS and on I MD had been determined by the respective call for advice and, in relation to selling practices, covered a number of areas (such as transparency of remuneration, conflicts of interests and inducements), which are not dealt with in this Report. These aspects are broader in nature and should be developed further as the wider legal framework evolves. 1 8 . I n identifying good practices, the Expert Group has taken existing EU legislation for the insurance sector as a starting point. In the future, legal concepts originally developed for other financial sectors (such as the KIID for pre-contractual disclosures or MiFID for rules on sales) may be increasingly relevant as a benchmark for the insurance sector. As these issues are equally of a wider nature, the Expert Group did not want to anticipate any developments in this respect. 19.The focus of this Report is on good practices at the point of sale. Given the long term nature of many VA contracts with options that can be exercised over the lifetime of the policy, the CCPFI noted the importance for policyholders to receive timely and clear information on the performance of their account value, so that they can exercise their options on an informed basis.

2.2. BASIC PRODUCT FEATURES
20.Variable annuities (VAs) are unit-linked life insurance contracts with investment guarantees provided by the insurance undertaking which, in exchange for single or regular premiums, allow the policyholder to benefit from the upside of the unit, but be partially or totally protected when the unit loses value. 21.A common business model pursued by many larger insurance groups consists of setting up specific subsidiaries dedicated to variable annuities business, which underwrite in several Member States, through freedom of establishment or freedom of services.
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22.In the US (where variable annuities have been sold in a significant way since the 1990s) as well as in some other markets such as Japan these products are very popular.
In Europe, VAs have become increasingly widespread too, as the possibility to gain from the exposure to specific underlying assets and being protected against a depreciation of these assets at the same time makes them quite appealing. 23.Recently, in some countries new variants of unit-linked policies have emerged that equally aim to provide some downside protection, but which do not include a guarantee by the insurance company. 24.As per the previous paper, these types of contracts fall outside the scope of this report. 25.In their basic form, the guarantees embedded in variable annuities cover the amount of premiums paid, but quite often they entail additional features, for instance, that the premiums paid yield at least at a pre-defined interest rate (roll-up). Alternatively, the guarantee may be reset to the highest account value throughout the insurance period, evaluated in accordance to a set of pre-defined time frames (ratchet). 26.Policyholders’ entitlements are determined on the basis of the guaranteed minimum benefits, if the underlying funds depreciate in value (or gain less than warranted by the roll-up rate). In all other instances, their claims are determined by the performance of the underlying funds. 27.Regarding the size and the characteristics of the VA market EIOPA has published the key findings of a survey concentrating on larger insurance groups in its First H alf Year Financial Stability Report 2011. From a consumer perspective it is important to look at the type of minimum benefit being offered.
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28. There are several kinds of guarantees or minimum benefits that can be embedded into a VA contract. Examples of common offerings include:
•GMDB (guaranteed minimum death benefit): Minimum benefit in case of death; •GMAB (guaranteed minimum accumulation benefit): Minimum guaranteed capital after a predefined period; •GM IB (guaranteed minimum income benefit): Minimum guaranteed lifetime or term annuity starting at a predefined age on a defined benefit base; •GMWB (guaranteed minimum withdrawal benefits): deferred or immediate, temporary or lifelong income stream. 29.The Financial Stability Report indicates that most contracts (72.2 % of gross written premiums) include a minimum death benefit. Regarding minimum living benefits, GMAB seems the most frequent feature, followed by GMWB and GM IB. Most policies are single premium contracts. 30.There are two major markets for these products. Some variable annuity contracts are intended for specific purposes (such as for private retirement savings) and seek to attract specific customer groups (such as affluent individuals approaching retirement age), often when the products are offered in tax preferred wrappers. In relation to these products, the “insurance element” (i.e. the guaranteed minimum living benefits) typically plays a prominent role in their marketing. 31.Other offerings are less focused in terms of the target clients and their goals.

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They look to attract a broad range of customers by promoting variable annuities as an investment opportunity with limited downside risk.
For these offerings, more emphasis is generally placed on the “investment element” (i.e. the underlying funds).

3. CURRENT TRENDS I N PRODUCT DEVELOPMENT
32.Current trends in product development can be traced back, to a large extent, to the lessons learned during the recent financial crises, which resulted in severe losses for some important insurance groups. To mitigate the effects of losses, these groups had, for example, to inject significant levels of capital into VA subsidiaries, halt product offerings and/ or withdraw from certain markets. The complexity of the products offered, market volatility, inadequate hedging and poor product design were some of the main reasons why these losses occurred. 33.One of the key features of many variable annuity products is the long-term nature of the guarantee in the form of living benefits. In addition, policyholders are usually given a number of choices and options – for instance in relation to fund selection - which they can exercise at inception or during the life of the contract. These two factors combined tend to make variable annuities offerings particularly complex from a risk management perspective. In particular, the implementation of a robust hedging programme, designed to ensure that the movements in the liabilities are offset by the movement in the financial derivative instruments used for hedging, presents a huge challenge for VA product companies. The losses experienced in the course of the financial crises have evidenced that the risks associated with these products are difficult to understand and to risk manage.
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34.VA product companies have put in place various initiatives with the aim to reduce the risk embedded in VA contracts. These trends in product development include, among others, the use of volatility limits and the reduction of fund options (for example, through only allocating investments to index based funds). This Report has as its sole objective to evaluate the impact of such initiatives on consumers, but does not assess their effectiveness from a risk management perspective. 35.It should be noted, however, that the cost of hedging and related risk-mitigation must be fully reflected in the charging structure for these products, thus reducing the potential benefits to consumers compared to pre-crises offerings.

It is, therefore, important that the product information provided is sufficiently clear to enable consumers to fully understand the VA contract they have been presented with.

3. DISCLOSURES 1.GENERAL AND PRODUCT SPECIFIC DISCLOSURES
36. The purpose of this section is to outline a possible approach to good disclosure practices for variable annuities.

Under current EU law, insurance companies are obliged to provide a certain set of pre-contractual information on the life insurance policies they offer, but the format, in which it is presented, is up to their discretion. To convey the essential product characteristics in a short document insurers often use a key features document, which is prescribed by national law in some jurisdictions. 37. The key features document and any promotional material that may be used for pre-contractual information must be consistent with
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the general terms and conditions applicable to a variable annuities offering. It is therefore seen as good practice for the promotional material to refer, where appropriate, to the relevant sections of the general terms and conditions. In doing so, the insurance companies can ensure consistency between their disclosure documents and the actual provisions in the contract, but it also allows customers to see how the precontractual information they receive is reflected in the general terms and conditions. 38.It is essential for the product provider to explain a number of areas of relevance to a customer in terms that are easily understandable, clear, fair and not misleading.

In relation to variable annuities some of the features, which need to be conveyed, are very product specific such as those that result from the interplay of minimum benefits and the performance of the underlying funds.
Others concern general information on the product provider, the law governing the product offering and the supervisory regime. Their relevance is due to the cross-border business model generally found with variable annuities. 39. EIOPA recognises that consumers in different European countries may have different preferences for the types of product disclosures received. One way of addressing consumer information needs is through the use of frequently-asked-questions (FAQs). The questions below, which could be presented to the potential customer both in the promotional material and in the precontractual information documents, are aimed at ensuring that any reader will have a good understanding of the product, the charges, terms in relation to redemption/ maturity and any specific risks that they should be aware of.
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These have therefore been grouped under 5 headings, although these are by no means exhaustive. Notwithstanding the questions below, insurance companies must follow all legal and regulatory requirements they are subject to. Finally, the questions as laid out below are indicative only, and companies may be flexible in their presentation of these to prospective customers, for example using scenarios, tables, graphics and “frequently asked questions” to ensure that the information is portrayed in a consumer-friendly manner.

1.

THE PRODUCT
•What is the product and how does it work? (This should describe the main features of the product and the type of guarantee(s) offered. I t should clearly state at what point any monies are payable and how much these will be.) •What choice does the policy holder have in where premium(s) are invested and what are those choices? (This should describe the underlying funds in which monies may be invested and the ability of the investor to choose) •What are the main features of these funds in terms of investment objective and risk profile? (This should describe the investment objective of the underlying funds in a clear manner with an indication of risk which should follow the same approach as that used for UCITS) •How does the guarantee work? (This should describe how the investment works, how the guarantee works and the interaction between the two) •Is the insurance undertaking entitled to unilaterally modify the degree of the guarantee?If so, is the minimum degree of the guarantee determined? •Do the guarantee benefits rise or fall under any circumstances? (If the product is subject to mechanisms such as roll-up or ratchet, this should clearly describe how these mechanisms work)
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•Are there any circumstances where the guarantee will not be applicable? (This should clearly state any circumstances where the guarantee will cease to exist or clearly state that the guarantee will apply in all eventualities) •If the underlying funds lose money, what will be impact on the policy? (This should describe, perhaps by way of a simple table or graph, what happens to the payout to the policy holder in certain situations) •May the policy-holder change the funds in which money is invested? (This will describe the process whereby a policy-holder may or may not have discretion on allocation, and if there is discretion, how often and to what extent that can be exercised) • Will changing allocation cost the policy holder anything?

3.1.2. CHARGES
• • • What charges are applicable to the policy and how much are they in percentage terms? H ow much of the initial premium(s) is/ are used to pay the various charges payable under the policy? What charges are payable on a regular basis and what is the impact of these? (This will describe the effect the regular charges have on the return on the policy) I f the policy-holder redeems early, will there be a cost associated with that? Or how long does the policy-holder have to stay in the policy to avoid any such surrender cost? I n case the charges can be modified unilaterally, is the maximum amount of those charges determined?

3.1.3. SURRENDERS/REDEMPTIONS/ MATURITY
• When does the policy mature? • What does the policy-holder receive on maturity?
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• Can the policy be surrendered earlier than maturity? • What happens if surrendered early and is there a cost associated? • Does the guarantee lapse if surrendered earlier than maturity?

• Are there any bonus payments payable?
• Can the benefits of the policy be transferred to someone else? • I f so, how will this affect the policy?

3.1.4. RISKS
• • • • • I s there any risk that the insurance company will not be able to pay the benefits? How exposed is the policy-holder to the riskiness in the underlying funds? Are there any circumstances where the policy-holder may not obtain the guarantee? I s the policy-holder exposed to the risk that the funds will perform badly? H ow does the policy-holder know that the premiums are being invested as requested?

3.1.5. COMPLAINTS/ LEGAL/TAX/REGULATI ON
• • • Which company does the policy-holder have a contract with? What is the name and address of the regulatory body of the insurance company that the policy-holder has a contract with? Which regulatory body does the policy-holder contact in the event of a complaint? Does he have access to an Alternative Dispute Resolution (ADR) system?

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• •

I s that company a member of an I nsurance Guarantee Scheme? I n what country? What are the legal consequences for the policy-holder in the event that the insurance company becomes insolvent or winds up? I n the event of a legal dispute between the policy-holder and the insurance company, under which jurisdiction will the legal proceedings happen (i.e. the governing law of the contract)? Are there any tax or legal issues that the policy-holder should be aware of?

3.2. ILLUSTRATIONS
40. The use of illustrations is governed by EU legislation in a number of aspects.

For the insurance sector Directive 2009/138/EC (“Solvency I I ” ), in particular, sets forth certain requirements on insurance undertakings, when they provide figures relating to potential payments above and beyond the contractually agreed payments. These also apply in relation to variable annuity contracts, as the guaranteed benefits constitute minimum promises, which may be increased in the event that the underlying funds appreciate in value. The following examples illustrate, specifically for variable annuities, good practice in implementing these legal requirements. 41. Illustrations should be used to give customers an understanding of what payouts they may receive and what it might cost them in a given set of circumstances.

It is usually sensible to show this on a number of different bases derived from the specific details of the case.
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Other illustrations on top of these could be provided but these should not assume investment growth above the top rate of the core illustration. 42. By contrast, the systematic use of favourable scenarios (when all scenarios presented lead to a positive outcome) would be misleading.

Unfavourable scenarios should always also be presented and illustrated; otherwise the customer could wrongly assume that his contract has no downside. The scenarios should also make clear the maximum risk assumed by the customer. 43. In addition given that many of the charges applied to these products are based on the underlying investment it is also good practice to show the effect of these charges on the growth of the fund.

This can be done as an effective reduction on the yield of the investment or as an effect of charges calculation (based on a standard investment growth rate or indeed no growth). 44. Furthermore it is also reasonable to use case studies to show what might happen in certain circumstances but these should not be misleading, should show the negative cases as well as the positive ones and should not take away from the standard illustrations above. All of the above should be caveated with the fact that these are just illustrations and should not be seen to give any promise that this will be what the customer will actually get.

45.

4. SELLI NG PRACTICES 1. DEMANDS AND N EEDS OF TH E CUSTOMER

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46.

This section identifies good selling practices for variable annuities irrespective of the distribution channel via which they are sold (direct sales or through intermediaries).

For the insurance sector, current EU legislation only covers sales by insurance intermediaries, defined as any person who, for remuneration, takes up or pursues insurance mediation. I nsurance intermediaries shall specify prior to the conclusion of any specific contract, in particular on the basis of information provided by the customer, the demands and needs of that customer as well as the underlying reasons for any advice given to the customer on a given insurance product. 47. In view of the complexity of many VA offerings, their long-term nature and the importance these products frequently have in the context of private wealth management, it is good practice to apply these principles to the distribution of variable annuities generally as, irrespective of the distribution channel, the demands and needs of a customer should always determine the type of contract that is being offered.

The sales process should be conducted by suitably qualified salespersons. 48. The objective pursued by a customer, based on the material facts that he has disclosed, should be a key consideration in assessing his demands and needs.

Determining whether a certain product offering is suitable will namely depend on whether it is used for private retirement savings or as investment opportunity more generally. 49. The Expert Group identified a number of areas where there is a potential risk of mis-selling (advice based on personal circumstances, use of clear projections, use of clear language).

The questions below are intended to prevent such risk from materialising.
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It should be noted that this list is indicative.

4.1.1. PERSONAL CIRCUMSTANCES
• Does the sales person ask for customer’s age, financial situation, personal demand, knowledge of financial markets and the time horizon for his investment (short, medium or long-term) etc.? Based on this demand does the sales person outline alternative products (direct investments, unit-linked contracts etc.) to VA products? Which features should the customer focus on when comparing VA to other products? Is the VA product tailored to the customer’s demand (private pension plan, investment)?

Are there any personal circumstances under which the sales person should not advise VA?

4.1.2. USE OF CLEAR PRODUCT DESCRIPTIONS INCL. ILLUSTRATIONS
The sales person should inform the customer in a clear and comprehensive way about the relevant aspects of the VA product to ensure the customer understands correctly the product he wants to buy.


Have potential risks of the VA product been explained in detail?
Has the fund performance been illustrated by adequate and plausible scenarios?(An adequate depiction includes positive scenarios as well as negative developments. It should also include a worst case scenario.) What are the benefits of the contract in case of surrender and death and have these been clearly illustrated?

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Does the insurance undertaking prepare information sheets for the sales person/ intermediary that they should use when informing the customer?

• Does the insurance undertaking monitor the intermediary? • Does the customer have to confirm in writing that he understood the information received?

4.1.3. USE OF CLEAR LANGUAGE
The sales person should be able to illustrate all relevant aspects of the VA product without using too many technical terms to avoid any confusion. If technical terms are used, for instance in written product information (e.g. volatility), the intermediary should be able to explain them in a clear manner. The customer should be able to take purchase decisions and to exercise his options during the contract period on an informed basis. • • • Does the sales person use terms which are understandable also for non experts? I s the sales person trained to explain the complex basis of the VA products? Does the sales person explain the written product information to the customer?

4.1.4. UNDERSTAND ING POTENTIAL FUTURE OUTCOMES
The performance of funds underlying VA contracts depends on different economic variables and conditions.

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Despite a variety of illustrations the customer may not be able to assess, which scenario is more realistic, if he is unaware of these variables and how they may affect the performance of fund investments underlying his policy and ultimately his account value. Customers should be made aware that the performance of their account value depends on how these economic variables and conditions change over time in a way, which is comprehensible to them. Only then can they decide which illustration they consider more realistic.


Does the sales person explain how external factors e.g. on capital markets can affect the fund development?
I n order to explain how external factors can affect the fund development, does the sales person refer to fund developments of the past?

Does he explain that past performance is not necessarily an indication of future performance? • H ow does the sales person measure that the customer has understood the information received?

The mechanics how a VA-product generates profits or losses may be very complex. Even if the customer can assess which scenario is more realistic, he does not know whether he has losses or profits in such a scenario. • Does the sales person explain the basic features and underlyings of the VA-product in question?

Depending on the type of the VA-product, does the sales person show the difference between a classical unit-linked product and a VA-product (Type of guarantee, contractual claims in case of a positive or negative fund development, structure of charges)?
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Does the sales person explain what kind of different options the customer can exercise during the duration of the contract and how this can affect the fund development? Does the sales person explain in which cases the customer gets only the guaranteed benefits at the end of the contract duration (e.g. adverse fund development) or to what extent he benefits from a positive fund performance?

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Learning more about Supervisory Agencies

BaFin - Bundesanstalt für Finanzdienstleistungsaufsicht Bundesrepublik Deutschland (Federal Republic of Germany)
Since it was established in May 2002, the Federal Financial Supervisory Authority (Bundesanstalt für Finanzdienstleistungsaufsicht - known as BaFin for short) has brought the supervision of banks and financial services providers, insurance undertakings and securities trading under one roof. BaFin is an independent public-law institution and is subject to the legal and technical oversight of the Federal Ministry of Finance. It is funded by fees and contributions from the institutions and undertakings that it supervises. It is therefore independent of the Federal Budget.

Organisation
Banking Supervision, I nsurance Supervision and Securities Supervision/ Asset Management are three different organisational units within BaFin – the so-called Directorates.

International
The large number of players operating on the global financial markets has been increasing steadily for many years now. Even though there is no legal framework that is binding internationally, markets are still expanding across borders.
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Financial supervision, however, is still largely inward-looking, since sovereign powers usually end at the national border.

Functions
BaFin operates in the public interest. I ts primary objective is to ensure the proper functioning, stability and integrity of the German financial system. Bank customers, insurance policyholders and investors ought to be able to trust the financial system. BaFin has over 1,900 employees working in Bonn and Frankfurt am Main. They supervise around 1,900 banks, 717 financial services institutions, approximately 600 insurance undertakings and 30 pension funds as well as around 6,000 domestic investment funds and 73 asset management companies (as of March 2011). Under its solvency supervision, BaFin ensures the ability of banks, financial services institutions and insurance undertakings to meet their payment obligations. Through its market supervision, BaFin also enforces standards of professional conduct which preserve investors' trust in the financial markets.

As part of its investor protection, BaFin also seeks to prevent unauthorised financial business.

Legal basis
BaFin’s By-Laws represent a major set of precepts for how it acts. They contain regulations governing its structure and organisation and its rights and obligations.

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They also govern the functions and powers of BaFin’s supervisory body, its Administrative Council (Verwaltungsrat), and details of its budget. BaFin also bases the way in which it carries out its supervisory activities on the Mission Statement it gave itself shortly after it was established. According to this Mission Statement, BaFin’s function is to limit risks to the German financial system at both the national and international level and to ensure that Germany as a financial centre continues to function properly and that its integrity is preserved. As part of the Federal administration, BaFin is subject to the legal and technical oversight of the Federal Ministry of Finance, with the framework of which the legality and fitness for purpose of BaFin's administrative actions are monitored.

BaFin Text - Solvency I I
Among other things, Solvency I I – the project to reform the European legal framework for insurance supervision – harmonises the solvency capital requirements for insurance firms and groups. Following the adoption of the Solvency I I Directive in November 2009, the focus in 2010 was on developing the implementing measures that are to be adopted and on performing the fifth quantitative impact study (QIS5).

It is currently planned to make the initial amendments to the Solvency I I Directive at the end of 2011 by way of the Omnibus I I Directive, for which the European Commission presented a proposal on 19 January 2011.
This contains amendments to two key areas of legislation. Firstly, it amends directives governing insurance and securities prospectuses to reflect the new EU rules on financial market supervision

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and in particular the new EU financial supervisory authorities that began work on 1 January 201 1. For example, E IOPA is incorporated into the Solvency I I Directive as the successor to CE IOPS. Provision is also made for the binding settlement of disputes by EIOPA. Secondly, the proposal contains amendments to the Solvency I I Directive. For example, the Directive provides for the implementation of Solvency I I to be postponed by two months until 1 January 2013. The Omnibus I I Directive also enables the European Commission to specify transitional requirements for individual elements of the Framework Directive, with different maximum transition periods being set for each area. The Omnibus I I Directive is of considerable significance for the continuing evolution of Solvency I I . For technical reasons, the European Commission cannot present the official draft of the Solvency I I implementing measures until after the Omnibus I I Directive has been adopted. The Omnibus I I Directive will therefore have a significant influence on the ongoing work on the implementing measures.

Implementing measures
The Solvency I I Directive gives the European Commission the authority to adopt implementing measures for particular areas. These are intended to add detail to the Directive and hence improve the harmonisation and consistency of supervision in Europe.
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In spring 2010, CE IOPS submitted its proposals in this area to the Commission, which at the end of 2010 presented an initial informal full draft of the implementing measures based on the proposals.

In 2011, this draft will be discussed further with the member states, with specific consideration being given to the findings of QIS5.
The official draft of the Solvency I I implementing measures will not be presented by the Commission and discussed with the Council and the Parliament until after the Omnibus I I Directive has been adopted.

Impact studies
The QIS5 study conducted by the Commission in the year under review is based on the Solvency I I Directive and reflects the implementing measures developed up until that time. The objective was to test the quantitative impact of Solvency I I in detail. European insurance firms and groups were asked to take part in the study between July and November 2010. The results received from solo firms were initially evaluated by the national supervisory authorities, while the data received from groups were analysed by CEIOPS or EIOPA. All results and findings were incorporated into a European report, which EIOPA presented to the Commission in March 2011. In addition, BaFin published a national report. The results of the study will have a major influence on the discussion regarding the Solvency I I implementing measures

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Guidelines for supervisors
In future, the provisions of the Directive and the implementing measures adopted by the European Council and the European Parliament will be complemented by guidelines for supervisors adopted by E IPOA, with the aim being to further harmonise supervisory practice in Europe. The four existing CEIOPS and E IOPA working groups began work on these guidelines in the year under review. In addition, E IOPA will develop binding standards (on the design of the yield curve, for example). One of the working groups, the Financial Requirements Expert Group (FinReq), has three areas of work: capital requirements (SCR/ MCR), the statement of technical provisions and own funds. Among other things, it has drawn up initial proposals for guidelines related to the procedure to be followed for the approval of undertakingspecific parameters for use in calculating the solvency capital requirement and the recognition of ancillary own funds. In cooperation with the Groupe Consultatif, a forum of European actuarial associations, it is also developing actuarial standards for calculating technical provisions. The Internal Governance, Supervisory Review and Reporting Expert Group (IGSRR) is responsible for the requirements for public disclosure and supervisory reporting by undertakings, capital addons and the valuation of assets and liabilities, and is developing guidance for supervisors on what the supervisory process may look like under Solvency I I .

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In doing so, it is focusing specifically on the evaluation of the own risk and solvency assessment (ORSA) and the templates for future reporting to supervisors. On a closely related topic, consideration is being given to how and which data may in future be exchanged electronically between national supervisory authorities and with E IOPA. In 2010, the Internal Models Expert Group (IntMod) developed guidance on the use test and on calibration, showing supervisors and the insurance industry how they can fulfil the future requirements. The Group also drew up general guidelines on hitherto less-discussed topics, such as the inclusion of profit and loss attribution in the internal model. The fourth CE IOPS/ EIOPA working group, the Insurance Groups Supervision Committee (IGSC), is drawing up guidance on practical cooperation in the colleges and in coordinating measures. The working group is also developing harmonised approaches for identifying, reporting and assessing risk concentrations and intragroup transactions.

Solvency ii Association www.solvency-ii-association.com

Solvency ii Association www.solvency-ii-association.com

Solvency I I Speakers Bureau
The Solvency I I Association has established the Solvency I I Speakers Bureau for firms and organizations that want to access the expertise of Certified Solvency ii Professionals (CSiiPs) and Certified Solvency ii Equivalence Professionals (CSiiEPs). The Solvency I I Association will be the liaison between our certified professionals and these organizations, at no cost. We strongly believe that this can be a great opportunity for both, our certified professionals and the organizers. To learn more: www.solvency-ii-association.com/ Solvency_I I _Speakers_Bureau.html

Course Title Certified Solvency ii Professional (CSiiP): Preparing for the Solvency ii Directive of the EU (3 days)
Objectives: This course has been designed to provide with the knowledge and skills needed to understand and support compliance with the Solvency ii Directive of the European Union. Target Audience: This course is intended for decision makers, managers, professionals and consultants that: A.Work in I nsurance or Reinsurance firms of EEA countries. B.Work in Groups - Financial Conglomerates (FC), Financial H olding Companies (FHC), Mixed Financial Holding Companies (MFHC), Insurance Holding Companies (IH C) - providing insurance and/ or reinsurance services in the EEA, whose parent is located in a country of the EEA.
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C.Want to understand the challenges and the opportunities after the Solvency ii Directive. This course is highly recommended for supervisors of EEA countries that want to understand how countries see Solvency I I as a Competitive Advantage. This course is also recommended for all decision makers, managers, professionals and consultants of insurance and/ or reinsurance firms involved in risk and compliance management. About the Course INT RODUCTION  The European Union’s Legislative Process  Directives and Regulations  The Financial Services Action Plan (FSAP) of the EU  Extraterritorial Application of European Law  Extraterritorial Application of the Solvency I I Directive  Solvency ii and the Lamfalussy Process  Level 1: Framework Principles  Level 2: Detailed Technical MeasuresLevel 3: Strengthening Cooperation Among Regulators  Level 4: Enforcement  Weaknesses of Solvency I  From Solvency I to Solvency I I  Solvency ii Players  Solvency ii Objectives

THE SOLVENCY I I DIRECTIVE  A Unified Legislative Basis for Prudential Regulation of I nsurers and Reinsurers  Risk-Based Capital Allocation
Solvency ii Association www.solvency-ii-association.com

              

Scope of the Application Important Definitions Value-at-Risk in Solvency I I Authorisation Corporate Governance Governance Functions Risk Management Corporate Governance and Risk Management - Level 2 Fit and proper requirements for persons who effectively run the undertaking or have other key functions Internal Controls Internal Audit Actuarial Function Outsourcing Board of Directors: Role and Solvency ii Responsibilities 12 Principles – System of Governance (Level 2)

PILLAR 2  Supervisory Review Process (SRP)  Focus on Risk Management and Operational Risk  Own Risk and Solvency Assessment (ORSA)  ORSA - The I nternal Assessment Process  ORSA - The Supervisory Tool  ORSA - N ot a Third Solvency Capital Requirement  Capital add-on PILLAR 3  Disclosure Requirements  The Solvency and Financial Condition Report (SFC) PILLAR I  Valuation Of Assets And Liabilities Technical Provisions  The Solvency Capital Requirement (SCR)
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 The Value-at-Risk Measure Calibrated to a 99.5% Confidence Level over a 1-year Time Horizon  The Standard Approach  The I nternal Models  The Collection of Additional H istorical Data  External Data  The Minimum Capital Requirement (MCR)  Non-Compliance with the Minimum Capital Requirement  Non-Compliance with the Solvency Capital Requirement  Own Funds  Investment Rules INT ERNAL MODEL APPROVAL  CEIOPS Level 2 - Tests and Standards for Internal Model Approval  CEIOPS Level 2 - The procedure to be followed for the approval of an internal model  Internal Models Governance  Group internal models  Statistical quality standards  Calibration and validation standards  Documentation standards SOLVENCY I I , GROUP SUPERVISION AND TH IRD COUNTRIES  Solvency I: Solo Plus Approach  Group Supervision under Solvency I I  Rights and duties of the group supervisor  Group Solvency - Methods of calculation  Method 1 (Default method): Accounting consolidation-based method  Method 2 (Alternative method): Deduction and aggregation method  Parent Undertakings Outside the Community - Verification of Equivalence
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 Parent Undertakings Outside the Community - Absence of Equivalence  The head of the group is in the EEA and the third country regime is not equivalent  The head of the group is in the EEA and the third country regime is equivalent  The head of the group is outside the EEA and the third country is not equivalent  The head of the group is outside the EEA and the third country regime is equivalent  Small and Medium-Sized I nsurers: The Proportionality Principle  Captives and Solvency I I EQUIVALENCE WIT H SOLVENCY I I AROUND THE WORLD  Solvency ii and Countries outside the European Economic Area  The I nternational Association of I nsurance Supervisors (IAIS)  The Swiss Solvency Test (SST) and Solvency ii:  Solvency ii and the Offshore Financial Centers (OFCs)  Solvency ii and the USA  Solvency ii and the US National Association of Insurance Commissioners (NAIC) - The Federal I nsurance Office created under the Dodd-Frank Wall Street Reform and Consumer Protection Act in the USA, and the ORSA in the USA FROM THE REIN SURANCE DIRECTIVE TO THE SOLVENCY I I DIRECTIVE  Directive 2005/ 68/ EC of 16 November 2005 on Reinsurance - The Reinsurance Directive (RID) CLOSING  The I mpact of Solvency ii Outside the EEA  Providing I nsurance Services to the European Client  Competing with Banks
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 Learning from the Basel ii Framework  Regulatory Arbitrage: A Major Risk for Countries that see Compliance as an Obligation, not an Opportunity  Basel I I , Basel I I I, Solvency I I and Regulatory Arbitrage  Challenges and Opportunities: What is next  Regulatory Shopping after Solvency I I To learn more about the online exam you may visit: www.solvencyiiassociation.com/ CSiiP_CSiiEP_Frequently_Asked_Questions.pdf www.solvency-ii-association.com/ CSiiP_CSiiEP_Certification_Steps.pdf To learn more about the course: www.solvency-ii-association.com/ Certified_Solvency_ii_Training.htm

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