The Reserve Bank of New Zealand (RBNZ) has launched an omnibus consultation (Consultation) as part of its review of the Insurance (Prudential Supervision) Act 2010 (IPSA) (IPSA Review). This is the final policy consultation before an exposure draft of an amendment bill is released for further consultation (likely in early 2025).

The RBNZ’s website announcement is available here, and the consultation paper is available here. 

Who should read this? Why?

The Consultation affects all those carrying on insurance business in New Zealand – including those locally incorporated and overseas insurers (including reinsurers), whether or not currently licensed by the RBNZ. It will also be of interest to intermediaries (e.g. brokers) and customers.

The proposals in this Consultation signal the potential for a marked shift in the approach to insurance prudential supervision in New Zealand.

What does it cover?

1. Summary

There are a significant number of proposals in the Consultation, many of which will have a profound impact on the regulation of insurers in New Zealand. This article explores the key problems identified by the RBNZ with the IPSA regime, and the solutions they propose.

These are broadly under the following categories: 

• Scope of IPSA: The RBNZ proposed to widen the scope of IPSA. The RBNZ would have a ‘deem in’ power, able to deem a product/transaction a “contract of insurance” subject to the IPSA regime. While the Companies Act “carrying on business” test is proposed to remain, the Consultation proposes to remove the New Zealand policyholder requirement, meaning insurers in New Zealand (without New Zealand policyholders) would be within the regime. The RBNZ also proposes a requirement for overseas insurers to hold New Zealand assets. 
• Solvency: The RBNZ has proposed additional supervisory and enforcement powers in relation to solvency, which would generally allow for a more intensive approach to prudential supervision. The RBNZ proposes that it would have a power to require an adjustment to the way insurer’s calculate solvency. The RBNZ also proposes a risk-based “ladder of intervention”, whereby the RBNZ has escalating intervention powers as an insurer’s solvency measures decline.
• Governance: The RBNZ proposes to impose a duty on directors of an insurer (or the CEO of a branch of an overseas insurer) to carry out due diligence to ensure the insurer is complying with the IPSA regime. This is similar to the requirement in the recently enacted Deposit Takers Act 2023 which will apply to banks and non-bank deposit takers once it comes into force. The Consultation also proposes a power to issue new standards in relation to corporate governance, risk management, outsourcing, related party disclosures and other solvency matters.
• Supervision and enforcement: The proposals in the Consultation include widening both the RBNZ’s supervisory and enforcement toolkit. This signals an intention by the RBNZ to increase its scrutiny of insurer’s solvency and take a more intensive approach to ensuring compliance with the IPSA requirements.
• Policyholder security: The Consultation includes new provisions strengthening policyholder’s interests in the event of an insolvency. This includes new provisions for the RBNZ’s involvement in distress management. However, a policyholder guarantee scheme is not proposed.

We have set out our views of these under the headings below.
 

2. Scope of IPSA

“Contracts of insurance” – new deeming power

The Consultation queries whether the definition of a “contract of insurance” (people offering which may be subject to the IPSA regime) is sufficiently clear and broad, including in relation to new forms of business.

Section 7 of the IPSA currently sets out the definition of a contract of insurance, being a contract involving the transference of risk under which, in return for a premium, one person agrees to pay another person a sum of money (or equivalent) on the happening of one or more uncertain events. Reinsurance is specifically included, and other products (like derivatives) are explicitly excluded.

In line with previous consultations, this Consultation proposes that IPSA be amended to include a ‘deeming power’: a power to declare by regulation that certain types of transactions or matters are contracts of insurance.

If such a power is introduced, it will allow for greater flexibility of the regime going forward – particularly in relation to InsurTech innovations. The question that the RBNZ must ask itself, in using this power, should not only be whether some products or kinds of business have insurance-like characteristics, but whether the business requires the sort of prudential regulations that IPSA provides, with its emphasis on risk management and maintenance of appropriate solvency capital to reflect the risk of uncertain events.

With flexibility comes uncertainty for those who provide products on the boundary of this definition – such as index insurance or InsurTech businesses.

To limit this uncertainty, we consider such a deeming power should be modelled on the current FMA power to declare “securities” to be “financial products” regulated under the Financial Markets Conduct Act 2013 (section 562), which is subject to procedural requirements in section 563 including to consult with persons substantially affected by the declaration. At the least, that the RBNZ should publish guidance on how the deeming power will be used, and what the proposed procedure for using such a power will be.
 

Carrying on insurance business in New Zealand

In the 2017 and 2022 consultations on this issue, submissions raise the need for a clear threshold as to when a person is “carrying on business in New Zealand”, stating that the current test is unclear.

Currently, there are three criteria which must all be met before an entity is deemed to be carrying on business in New Zealand. The entity must be: 

• either resident or incorporated in New Zealand, or an overseas company carrying on business in New Zealand within the meaning of the section 332 of the Companies Act 1993; 
• acting or have at any material time acted, as an insurer in New Zealand or elsewhere; and
• is liable as an insurer under a contract of insurance to a New Zealand policyholder. 

Submissions from the 2017 and 2022 submissions raised particular issues in relation to the lack of clarity in the Companies Act definition of “carrying on business”; and whether the New Zealand policyholder test is appropriate. 

Companies Act test to remain

The position for locally incorporated insurers is clear – however, for overseas insurers, the Consultation does not address directly the inherent difficulty in determining whether the insurer is “carrying on business” and therefore needs to comply with the IPSA – especially when the insurer operates without a physical place of business in New Zealand.

The Consultation claims that the RBNZ has “established procedures” for considering whether a person is carrying on business – being that “where a firm has registered as an overseas company under the Companies Act 1993, we conclude that they are carrying on business in New Zealand”. But that means that in practice, the RBNZ is leaving the decision about whether an overseas insurer is caught by the IPSA regime to the overseas insurer themselves, subject to the Registrar of Companies guidance and enforcement approach under the Companies Act.

However, while identifying the problem is easy – solving the problem is understandably hard. Implementing a premium threshold (as the RBNZ has considered prior to this Consultation) is equally problematic. Setting a premium threshold too low would capture overseas insurers offering niche insurance – cover that would not otherwise be obtained. Setting a premium threshold too high signals a tolerance for offering consumer contracts without regulation, undermining policyholder protections. Further, premiums fluctuate year on year, so could inadvertently capture insurers with little time to prepare for compliance. Ultimately, this solution was not adopted in the Consultation.

The RBNZ has preferred to keep the Companies Act test, deciding that the risks of changing the definition would outweigh the benefit of greater certainty. The risk being, that the New Zealand insurance market is strongly supported by foreign insurers through the provision of reinsurance and niche insurance products, and those providers might withdraw cover if they were to be required to comply with IPSA.

The 2017 Issues Paper on the IPSA Review states that only 23.8% of the total gross annual premium of insurers in New Zealand are locally owned – the balance being New Zealand entities (owned by overseas entities) or overseas insurers operating through branches (or otherwise). [1] Therefore, increasing the scope of IPSA and requiring overseas insurers to comply with prudential regulation may greatly affect New Zealand’s ability to access insurance and reinsurance.

New Zealand policyholder – to be removed

The Consultation proposes to remove the “New Zealand policyholder” limb from the carrying on insurance business in New Zealand test. This follows the recommendations from the Trowbridge-Scholtens Report - which was commissioned by RBNZ and covered its supervision of CBL Insurance Limited. The Report, amongst other things, raised the potential reputational risk for New Zealand that could arise from New Zealand based insurers which insure non-New Zealand policyholders, if they are not regulated as overseas policyholders/regulators may expect them to be. (CBL Insurance, however, did hold a licence under IPSA.)
 

Overseas insurers – ensuring sufficient local assets

The RBNZ proposes a number of new obligations aimed to reduce the risk that it considers cross-border insurers present:

• introducing an outsourcing standard to ensure that insurers have identified and considered the prudential and business continuity risks presented by outsourcing arrangements.
• dividend restrictions as part of the ladder of intervention approach to solvency – discussed further below. 
• introducing an obligation on both the directors of an insurer and the CEO of a branch office of an overseas insurer to carry out due diligence to ensure that the insurer complies with the prudential obligations of IPSA.

The RBNZ is still considering proposing a requirement on branches to hold assets in New Zealand equivalent to New Zealand solvency capital requirements, but is unsure of whether this would be beneficial. A requirement to incorporate subsidiaries in New Zealand, as raised in the 2022 consultation, is not being taken forward.

These proposals have been the subject of much debate during the consultation process, from 2017 till now. Ultimately, the key considerations in introducing the above obligations are the benefits of regulatory equivalence between New Zealand and overseas insurers, capital availability for New Zealand policyholders in the event of an insolvency and the inherent reliance of the New Zealand insurance market on overseas insurers.

There is clear benefit to policyholder security in introducing this requirement. As the RBNZ points out, the requirement to ring fence New Zealand assets would allow for direct oversight into the overseas insurer’s solvency.

In our view, the requirement for branches to hold New Zealand assets may greatly strengthen the security of New Zealand policyholders, without as great of a cost to the New Zealand market as the RBNZ fears. The assets would represent the required prudential capital in relation to the overseas insurer’s New Zealand business – something they would presumably be required to hold in relation to their business as a whole under overseas standards. Further, this requirement is not unduly onerous in comparison to other jurisdictions, proposed to be modelled off the Australian requirement. A risk-based approach could also be taken so that smaller or lower-risk overseas insurers would not be required to hold New Zealand assets.
 

3. Solvency

Solvency calculations – new power to adjust

The RBNZ is proposing to introduce a new statutory power to be able to impose supervisory adjustments to the way the solvency calculations are carried out. This is a controversial decision, which the RBNZ claims in the recent Consultation “is an important power for regulators” and in the previous 2021 consultation “would provide a better public guide for comparing insurers” financial position. We disagree.

The proposed introduction of this new power also appears to be a response to the CBL Insurance saga. Before CBL Insurance was placed into liquidation, the RBNZ took issue with the solvency calculations (specifically the capital charge applied) by CBL Insurance and it’s appointed actuary. The difference of views between RBNZ and CBL Insurance are usefully summarised by the High Court in R v Harris. [2]

This proposed new power is absolute in nature, allowing the RBNZ to make final determinations in relation to solvency calculations. If such a power is introduced, insurers’ only recourse to challenge the RBNZ’s decisions will be through judicial review.

While such a power was recommended in the Trowbridge-Scholtens Report, we submit that it requires very careful consideration before being implemented. Where a solvency calculation adjustment is made, the RBNZ is retrospectively asking the insurer to hold a higher level of capital – something that should be forward looking in order to enable the insurer to prepare for the increase. Further, the power potentially undermines the role of the appointed actuary, as an independent officer under IPSA.

An alternative would be a greater use of the RBNZ’s existing powers to increase the solvency margin an insurer is required to hold through licence conditions, and to issue more detailed guidance in relation to how the solvency standards should apply.
 

Ladder of intervention

A key proposal throughout the IPSA Review has been to introduce a “ladder of intervention”, whereby the RBNZ has increased regulatory tools available where the solvency of an insurer decreases. The ‘top rung’ of the ladder would be the ‘prescribed capital requirement’ (PCR); the ‘bottom rung’ of the ladder would the ‘minimum capital requirement’ (MCR).

The current proposed ladder is:

Through the course of the IPSA Review, there has been support for the risk-based approach to intervention.

What powers are open at which rung of the ladder may be more controversial. For example, direction powers are permitted when there is a breach of the PCR. This would allow the RBNZ to give a direction not to write new business when the insurer is still solvent (about the minimum level) – like many previous submissions, we consider this is premature.

The RBNZ argues in the Consultation that there is no other point between breach of the PCR and ‘likely to breach MCR’ – we consider, however that ‘likely to breach MCR’ would be an appropriate rung for a direction of this kind. If this power is allowed, then the RBNZ is effectively raising the minimum capital required to operate an insurance business up to the PCR – which we presume is not the intention.
 

4. Governance

Directors’ duties – due diligence duty proposed

The Consultation proposes introducing a duty on directors to exercise due diligence to ensure that a licensed insurer complies with its prudential obligations in connection with IPSA. Duties of this type are typically owed to the company, but can be enforced either by a minority shareholder with the leave of the Court under section 165 of the Companies Act, or by a liquidator in the event of insolvency of the company.

The same duty would be imposed on the CEO of a branch of an overseas licensed insurer. The rationale for this is to ensure that directors have appropriate incentives and public accountability for their role in the oversight of an insurer’s compliance with prudential requirements.

This is a positive duty to conduct due diligence, compared to the current provisions in IPSA which provide for criminal liability where an insurer is convicted of an offence and the act took place with the director’s authority, permission or consent.

The Consultation’s proposals are very similar to those in the Deposit Takers Act. Unsurprisingly, this proposal was opposed in the 2022 consultation on governance, but those submissions did not prevail.

However, there is an additional argument that in contrast to banking, insurers may not present the same level of systemic risk. We have seen this, for instance, even with the impact of the Christchurch earthquake in February 2011, which resulted in the establishment of Southern Response Earthquake Services Limited and the sale of AMI Insurance to IAG.

Actuaries’ duties

A similar duty is proposed for appointed actuaries – the duty to exercise due diligence in the performance of the duties required of them under the actuarial advice standard. The liability is proposed to be capped at $500,000. This is a substantial sum.
 

New governance standards

The Consultation proposes a power to issue new standards in relation to corporate governance, risk management, outsourcing, related party disclosures and other solvency matters.

Further consultation on what will go into these standards is expected. We expect the content of these standards to be informed by the recent Governance Thematic Review, the report for which was released earlier this year.

It is important that a risk-based approach is adopted by the RBNZ in setting these standards. The standards set will need to be flexible enough to allow for the varying size, nature and complexity of industry participants.
 

Fit and proper adjustments

The Consultation proposes changes to update the current fit and proper provisions in IPSA: 

• requiring the RBNZ provide approval of a relevant officer before any appointments are made. This avoids the timing issue in the current provisions where the RBNZ considers a relevant officer is not ‘fit and proper’ after the person is appointed and a certificate is submitted to the RBNZ; 
• introducing a requirement for insurers to notify the RBNZ where they obtain information that could reasonably lead them to form the opinion that a relevant officer is not a fit and proper person to hold their position; and
• including the Chief Risk Officer within the definition of “relevant officer”.

Generally we support these proposals, but insurers will need to consider carefully how they will operate especially in the context of smaller companies.
 

5. Supervision and enforcement

Increased supervisory toolkit

The Consultation proposes to introduce the following extensions to the RBNZ’s supervisory powers (all of which were the subject of prior consultations): 

• extending investigation powers to cover entities that are not licensed insurers but which may be failing to comply with the other relevant provisions of IPSA (e.g. the licensing requirement); 
• wider information gathering powers, including to require information; 
• an on-site inspection power; 
• an ability to require an insurer’s employees to answer questions on notice during investigations; 
• a material breach reporting regime; 
• a new direction power to direct insurers not to renew existing insurance contracts, in addition to the power to direct not to write new business.

This increase in supervisory powers is broadly consistent with those of the FMA under the Financial Markets Authority Act 2011 and the Deposit Takers Act.

Of particular interest is the proposed breach reporting – requiring insurers to monitor compliance with prudential regulation and report to the RBNZ where the insurer believes it has or is likely to breach a prudential obligation in a material respect. The RBNZ has stated that materiality will be clearly defined and guidance issued if this power is enacted.

We expect the power to direct insurers not to renew existing policies will be controversial, given the potential for policyholder harm. Safeguards are already built into IPSA - section 4 of IPSA will require the RBNZ to consider policyholder interests when exercising its power to give such a direction.
 

Increased enforcement toolkit

As with supervisory powers, the Consultation proposes to widen the enforcement tools available to the RBNZ: 

• an explicit power to require insurers to publish a written warning issued by the RBNZ; 
• remediation notices, enabling the RBNZ to specify actions for remedying a breach of IPSA;
• infringement notices allowing RBNZ to impose modest fines for unambiguous breaches; 
• enforceable undertakings, involving a binding agreement to take remedial action, including payment of compensations; and
• civil pecuniary penalties, including for breaches of standards.

New penalty levels have also been proposed – unsurprisingly, these are based off of the Deposit Takers Act penalties, but appear to be generally lower than the Deposit Takers Act.
 

Approvals

The Consultation proposes a single test for ‘obtaining significant influence’, change of corporate form, and transfers and amalgamations. The aim is to allow for more flexibility so that supervisor scrutiny can be tailored to the risk presented by each transaction.

The previous change of control approval threshold would be lowered instead to ‘influence’, echoing the wording in the Deposit Takers Act.

Guidance would be issued on the approval process, including the criteria to be considered and the decision-making process.
 

Coordination with FMA

The Consultation proposes a statutory requirement for the RBNZ to consult with the FMA before issuing or revoking a licence. This alters the previous proposal in the 2022 consultation to include a requirement to consult in relation to transaction approvals (e.g. change of control) as well. We welcome this requirement, as it makes sense that the two regulators are obliged to consult, though they will need to manage the risk of gridlock.

Further, if the conduct of financial institutions regime (referred to as CoFI and contained in the FMCA) comes into force as enacted, retail insurers will be required to hold a conduct licence from the FMA. CoFI does require the FMA to obtain the consent of the RBNZ before suspending or cancelling a licence. Therefore, it will be all the more important that the RBNZ and FMA consult as each must issue a licence before the insurer may operate.

In relation to revoking a licence, the same applies. Further, while each of the conduct licence and IPSA licence make up the insurer’s licence to operate, a duty to consult on the revoking of a licence infers that a breach of the conduct regime may result in the revoking of a licence under IPSA, and vice versa, when the regimes have been separately enacted.
 

6. Policyholder security

There are a number of proposals in the Consultation in relation to policyholder security and statutory funds.

These include:

• removing the requirement to operate a statutory fund in relation to yearly renewable term life policies; 
• inserting a preference for policyholders in insolvency; 
• tighter restrictions on investments in related parties for all insurers; 
• an ability for the court to order that a civil pecuniary penalty imposed on key officers should be paid to policyholders; and 
• a requirement for policyholders’ rights to be documented under the section 53 novation rules. 

The Consultation further confirms that there is no proposal to introduce a policyholder guarantee scheme as part of this IPSA Review. Ultimately, the RBNZ considers that introducing the scheme, while it would benefit policyholders’ security, is likely to unduly raise the cost of insurance.
 

Distress management

The Consultation repeats proposals from previous consultations in relation to distress management. These include: 

• setting a purpose statement provision applicable to the distress management regime, centred around policyholder and public interest;
• technical changes to the moratorium established when an insurer is placed under statutory management; and
• empowering standards to deal with resolution preparedness.

Our view

The review of IPSA is both important and appropriate. The question for insurers to consider is whether they agree with the higher level of regulation proposed.

The proposals in this Consultation signal the potential for a marked shift in the approach to insurance prudential supervision in New Zealand. The proposals generally aim to bring into effect a more extensive level of regulatory supervision and intervention – for example, the proposal to introduce a wider scope of regulatory investigation and enforcement powers.

This is particularly interesting given the recent comments from the recent CBL Insurance decision, R v Harris, where the Court noted the intentionally “light-handed” nature of the existing IPSA legislation. The Court noted the original Bill for IPSA was described by Parliament as “in a light-handed way, it provides for the delivery of regulation so that we do not mire the industry in a compliance mentality”.  These proposals would bring about a new era of greater oversight and regulation for insurers. R v Harris has additional relevance in the spotlight the Court put on the way the RBNZ exercised its existing powers under IPSA to issue directions, in practice

It will be important that the revised IPSA is compatible with other legislation – including, for example, the FMCA (as amended by the CoFI Act). The Consultation is predicated on the assumption that the CoFI Act will continue post-election, suggesting that the incoming conduct regulation will complement the prudential regulation, both of which aim for policyholder protection. Noting the New Zealand National Party’s recent statements that some revisions will be made to the CoFI Act if they are elected, the resulting Bill from the Consultation will need to consider whether and to what extent policyholder protection extends to conduct regulation through IPSA if CoFI is so revised.

One of the aims of the Consultation is to align the Deposit Takers Act and IPSA. This makes sense, except to the extent that the nature of banking and insurance necessitates that the law which regulates them is different. For example, a lighter touch can be applied than for deposit takers, seeing as the solvency of each insurer is not interconnected, as it is in banking. Going forward, it will be important that the RBNZ listens to feedback from the insurance industry where they feel the regulation is overzealous or needlessly aligned to the Deposit Takers Act.

What next?

Submissions are open until 12 December 2023. Feedback is sought on all proposals, including those from previous consultations. Specific questions have been asked on new material or where added detail has been provided. Accordingly, where a proposal affects your business, we encourage you to make a submission.

From there, a draft Bill for consultation is likely to be released in early 2025. The RBNZ has not indicated when the proposed changes may become a reality. So far, the IPSA Review timeline has been significantly delayed, even since the IPSA Review’s relaunch in October 2020 – we consider, therefore, the finalised Bill may not be submitted to the Parliamentary process until at least late 2025. If the Deposit Takers Act is any indication, there will be a significant (multi-year) lead in for the changes if enacted.

If you have any questions about the consultation or the IPSA regime generally, please contact one of our experts.

Footnotes

[1] Issues Paper: Review of the Insurance (Prudential Supervision) Act 2010, issued by the RBNZ in March 2017. Figure 2 and Appendix 2 (which contains a summary of the data feeding the figure), show the gross annual premium as a proportion by domicile of incorporation of the licensed insurer. 
[2] [2023] NZHC 2635.