Internal Market and Services DG
FINANCIAL INSTITUTIONS
Insurance and pensions
Brussels, 31 March 2008
MARKT/2505/08
QIS4 Technical Specifications (MARKT/2505/08)
Annex to Call for Advice from CEIOPS on QIS4 (MARKT/2504/08)
References to Articles in the Directive proposal refer to the amended COM proposal 2008/119 published on 26 February 2008.
All Annexes to this document are located at the end of the document except for the IFRS and Proxies annexes which are included in the relevant sections.
The Operational Risk Questionnaire (MARKT 2506/08) is presented in a separate excel file.
All documents relating to QIS4 produced by CEIOPS will be made available on their website (http://www.ceiops.eu/content/view/118/124/) including the QIS4 spreadsheets, CEIOPS' background calibration documents, a document containing a number of examples regarding the Group Specifications, and any national supervisory guidance produced by CEIOPS members.
Table of Contents
Introduction 8
Section 1 - Valuations of assets and liabilities 9
TS.I. Assets and other liabilities 9
TS.I.A Valuation approach 9
TS.I.B. Guidance 10
TS.II. Technical provisions 13
TS.II.A General Principles 13
TS.II.B. Best Estimate 19
TS.II.C Risk margin 25
TS.II.D Life Technical provisions 32
TS.II.E. Non-life Technical Provisions 46
TS.III. Annex 1: IFRS - Accounting / Solvency adjustments for the valuation of assets and other liabilities under QIS 4 52
TS.III.A. Assets……………………………………………………………………….52
TS.III.B. Other liabilities 60
TS.IV. Annex 2: Proxies 67
TS.IV.A. Range of techniques 67
TS.IV.B. Market-development-pattern proxy 68
TS.IV.C. Frequency-severity proxy 72
TS.IV.D. Bornhuetter-Ferguson-based proxy 74
TS.IV.E. Case-by-case based proxy for claims provisions 77
TS.IV.F. Expected Loss Based proxy 79
TS.IV.G. Premium-based proxy 81
TS.IV.H. Claims-handling cost-reserves proxies 82
TS.IV.I. Discounting proxy 83
TS.IV.J. Gross-to-net proxies 85
TS.IV.K. Annuity proxy 88
TS.IV.L. Life best estimate – proxy 1 89
TS.IV.M. Life best estimate – proxy 2 90
TS.IV.N. Risk Margin proxy 91
Section 2: Own funds 93
TS.V. Own Funds 93
TS.V.A. Introduction 93
TS.V.B. Principles 93
TS.V.C. Ring-fenced structures 94
TS.V.D. Classification of own funds into tiers and list of capital items 96
TS.V.E. Ancillary own funds 98
TS.V.F. Examples …………………………………………………………………...99
TS.V.G. Intangible assets 101
TS.V.H. Participations and subsidiaries in the own funds of the parent company at solo level ………………………………………………………………….101
TS.V.I. Group support 101
TS.V.J. Optional reporting 101
Section 3 - Solvency capital requirement: the standard formula 112
TS.VI. SCR General Remarks 112
TS.VI.A. Overview………………….. 112
TS.VI.B Segmentation of risks for non-life and health insurance business 113
TS.VI.C. Market risk on assets in excess of the SCR (“free assets”) 114
TS.VI.D. Valuation of intangible assets for solvency purposes 114
TS.VI.E. Intra-group participations 114
TS.VI.F. Undertaking-specific parameters 114
TS.VI.G. Simplifications in SCR 115
TS.VI.H. Adjustments for the risk absorbing properties of future profit sharing 116
TS.VI.I. Adjustments for the risk absorbing properties of deferred taxation 118
TS.VII. SCR Risk Mitigation 120
TS.VII.A. General approach to risk mitigation 120
TS.VII.B. Requirements on the recognition of risk mitigation tools 120
TS.VII.C. Principle 1: Economic effect over legal form 121
TS.VII.D. Principle 2: Legal certainty, effectiveness and enforceability 121
TS.VII.E. Principle 3: Liquidity and ascertainability of value 121
TS.VII.F. Principle 4: Credit quality of the provider of the risk mitigation instrument 122
TS.VII.G. Principle 5: Direct, explicit, irrevocable and unconditional features 122
TS.VII.H. Special features regarding credit derivatives 123
TS.VII.I. Collateral 123
TS.VIII. SCR Calculation Structure 124
TS.VIII.A. Overall SCR calculation 124
TS.VIII.B. SCRop operational risk 125
TS.VIII.C. Basic SCR calculation and the adjustment for risk absorbing effect of future profit sharing and deferred taxes 127
TS.IX. SCR market risk module 132
TS.IX.A. Introduction 132
TS.IX.B. Mktint interest rate risk 134
TS.IX.C. Mkteq equity risk 137
TS.IX.D. Mktprop property risk 143
TS.IX.E. Mktfx currency risk 144
TS.IX.F. Mktsp spread risk 145
TS.IX.G. Mktconc market risk concentrations 150
TS.X. SCR Counterparty risk module 154
TS.X.A. SCRdef counterparty default risk 154
TS.XI. SCR Life underwriting risk module 160
TS.XI.A. SCRlife life underwriting risk module 160
TS.XI.B. Lifemort mortality risk 162
TS.XI.C. Lifelong longevity risk 164
TS.XI.D. Lifedis disability risk 165
TS.XI.E. Lifelapse lapse risk 167
TS.XI.F. Lifeexp expense risk 169
TS.XI.G. Liferev revision risk 170
TS.XI.H. Lifecat catastrophe risk 171
TS.XII. SCR Health underwriting risk module 174
TS.XII.A. Health underwriting risk Module 174
TS.XII.B. Health long term underwriting risk module 176
TS.XII.C. Accident & Health short-term underwriting risk module 182
TS.XII.D. Workers compensation underwriting risk module 185
TS.XIII. SCR Non-Life underwriting risk Module 194
TS.XIII.ASCRnl non-life underwriting risk module 194
TS.XIII.BNLpr Non-life premium & reserve risk 195
TS.XIII.CNLcat CAT risk 204
Section 4 - Solvency Capital Requirement: Internal Models 211
TS.XIV. Internal Models 211
TS.XIV.A. Introduction and background 211
TS.XIV.B. Questions for all insurance undertakings (both solo entities and groups)…………………………………………………………………….212
TS.XIV.C. Questions for insurance undertakings using an internal model for assessing capital needs (both solo entities and groups) 214
TS.XIV.D. Quantitative data requests for insurance undertakings using an internal model for assessing capital needs (both solo entities and groups) 218
Section 5 - Minimum Capital Requirement 220
TS.XV. Minimum Capital Requirement 220
TS.XV.A. Introduction 220
TS.XV.B. Overall MCR calculation 220
TS.XV.C. Linear MCR for non-life business 222
TS.XV.D. MCR for non-life business – activities similar to life insurance 223
TS.XV.E. MCR for life business 224
TS.XV.F. MCR for life business – supplementary non-life insurance 226
Section 6 - Groups 227
TS.XVI. QIS 4 Technical Specifications for Groups 227
TS.XVI.A. Introduction 227
TS.XVI.B. Default method: Accounting consolidation 230
TS.XVI.C. Variation 1: Accounting consolidation method, without worldwide diversification benefits 237
TS.XVI.D. Variation 2: Accounting consolidation-based method, but without diversification benefits arising from with-profit businesses for the EEA entities 239
TS.XVI.E. Deduction and aggregation method (the Alternative Method set out in Article 231) 240
TS.XVI.F. Group Capital Requirements and Capital Resources under current regime (IGD/FCD) 242
TS.XVI.G. Group SCR Floor 242
TS.XVI.H. Use of an internal model 242
TS.XVI.I. Group Support 242
Annexes 244
TS.XVII. Annexes 245
TS.XVII.A Annex TP 1: Adoption of interest rate term structure methodology 245
TS.XVII.B Annex Own funds 1: Simplification of the calculation of SCRfund i for ring fenced structures (see TS.V.C) 249
TS.XVII.C Annex SCR 1: Treatment of participations and subsidiaries at solo level………………………………………………………………………..250
TS.XVII.D Annex SCR 2: Standardized method to determine undertaking-specific parameters (standard deviations for premium and reserve risk) 252
TS.XVII.E Annex SCR 3: Method 2 NLCat risk scenarios 254
TS.XVII.F Annex SCR 4: Concentration risk in Denmark 270
TS.XVII.G Annex SCR 5: Dutch health insurance 271
TS.XVII.H Annex SCR 6: UK alternative disability risk-sub-module within Life underwriting 274
TS.XVII.I Annex SCR 7: Alternative approach to assess the adjustment for the loss-absorbing capacity of the TP and deferred taxes – background document on the "single equivalent scenario" 278
TS.XVII.J Annex SCR 8: Alternative approach to assess the capital charge for equity risk, incorporating an equity dampener – background document provided by French authorities 282
TS.XVII.K ANNEX Groups Specifications 1: abbreviations 285
TS.XVII.L Annex Composites: summary of the main provisions in the Directive Proposal 286
disclaimer
The technical specifications laid out in this document have been written exclusively for the purposes of the QIS4 exercise. Whilst the results of this exercise will be the main quantitative input used by CEIOPS in the development of their final advice on potential level 2 implementing measures, which is due in October 2009, CEIOPS final advice will not necessarily reflect the specifications laid out in this document. Indeed, in a number of areas a range of different options are being tested in this exercise and a decision as to the best approach will only be taken after the results of QIS4 have been analysed and discussed. Similarly, the European Commission will only finalise its proposals for level 2 implementing measures once the Solvency II Directive has been adopted by Parliament and Council and it has received advice on potential level 2 implementing measures for Solvency II from CEIOPS in October 2009. Consequently, this text should neither be read as committing CEIOPS with respect to future advice it will provide to the European Commission on level 2 implementing measures, nor the European Commission with respect to future level 2 implementing measures it will propose. Furthermore, whilst every effort has been made to ensure that the technical specifications are consistent with the Solvency II proposal, they should not be used to interpret the Solvency II Directive proposal, or be relied upon as a source of guidance in this regard.
Introduction
This document sets out the technical specifications to be used for the Fourth Quantitative Impact Study (QIS4), which the European Commission has asked CEIOPS to run between April and July 2008 in the frame of the development of potential future level 2 implementing measures for the Solvency II Directive Proposal.
The reporting date to be used by all participants should be end December 2007. Where participants do not have all the information necessary to conduct the solvency assessment on 31 December 2007, they may use 31 December 2006 as the reporting date instead, provided that they indicate this in the QIS4 spreadsheets.
As with previous QIS exercises and in order to maximise participation, participants are invited to take part in the QIS4 exercise on a best efforts basis. However, where alternative approaches are provided for in these specifications, participants are strongly encouraged to provide data on the alternatives, in order to enable a comparative quantitative analysis of the different approaches to be conducted.
In particular, participants are invited to provide feedback on the relative impact of the various simplified calculations for technical provisions and the SCR standard formula laid down in these specifications, as well as the different methods proposed for groups. In addition, participants are also invited to provide quantitative results derived using their own internal model as well as using the SCR Standard Formula.
The simplified calculations are included in boxes to help participants identify them:
Simplifications for participants
Participants are often also "requested" or "invited" to provide additional information regarding the practicality and suitability of the specifications. The most important additional questions and information requests have been highlighted in grey, with a black border.
Important question or information request
General questions on the implementation of QIS4 specifications at solo level
1. What major practical difficulties did you face in producing solo data for QIS4 purposes? Do you have any suggestions on how to solve these problems?
2.
(a) Can you provide an estimate of the additional resources (in fte months) that are likely to be required:
i. to develop appropriate systems and controls at solo level, and
ii. to carry out a valuation each year of the SCR in accordance with the methodology proposed in QIS4 specifications?
(b) What level of resource (in fte months) was required to complete the solo aspects of QIS4?
(c) On what aspect(s) of the solo QIS4 specifications (e.g. technical provisions, SCR) did you dedicate most of your resource when completing the QIS4 exercise?
3. Please provide some assessment of the reliability and accuracy of the data you have input in the QIS4 exercise.
Section 1 - Valuations of assets and liabilities
This section concerns valuation requirements for:
• assets and other liabilities
• technical provisions
TS.I. Assets and other liabilities
TS.I.A Valuation approach
TS.I.A.1 The Solvency II risk-based philosophy for determining solvency capital requirements endeavours to take account of all potential risks faced by insurance undertakings. One component of this approach is to asses the risk of loss in the value of assets and liabilities (other than technical provisions) held by undertakings. In line with the Framework Directive Proposal, this assessment should be made using an economic, market-consistent valuation of all assets and liabilities.
TS.I.A.2 On this basis, the following hierarchy of high level principles is proposed for the valuation of assets and liabilities under QIS 4:
(i) Wherever possible, a firm must use "mark to market" methods in order to measure the economic value of assets and liabilities;
(ii) Where this is not possible, mark to model procedures should be used (marking to model is any valuation which has to be benchmarked, extrapolated or otherwise calculated from a market input). When marking to model, undertakings will use as much as possible observable and market consistent inputs;
(iii) Firms may opt to follow the guidance in the annexed tables (see TS.III.A and TS.III.B) to determine where the treatment under IFRS is considered an allowable proxy for economic value for the purposes of QIS 4. Where possible, this guidance may also be applied to local GAAP;
(iv) Under the following circumstances national accounting figures may be used (even though these might not reasonably be regarded as a proxy for economic value):
- where a firm can demonstrate that an asset or liability is not significant in terms of the financial position and the performance of the entity as determined under the applicable financial reporting framework and the solvency assessment. (Participants should refer to the materiality principle set out in their applicable financial reporting framework to determine what is deemed significant or not, and apply the same principle for solvency purposes);
- when the calculation of an economic value is unjustifiable and impractical in terms of the costs involved and the benefits derived.
TS.I.A.3 When participants have ring-fenced funds in place (see definition in TS.V.C), which separate part of the resources from the rest of the business, the calculation of the liabilities and assets for each ring-fenced fund should include all cash-flows in and out of that fund. For example, inter-fund cash-flows should be considered as assets of the fund which receives them and as a liability of the fund of origin. When preparingaccounts for the whole undertaking,the transactions between fundsshould be netted off.
TS.I.A.4 The attention of participants is drawn to the two following points:
Intangible assets (including goodwill):
TS.I.A.5 For solvency purposes, the economic value of most intangibles assets is considered to be nil or negligible, since they very rarely have a cashable value. Therefore, for the purpose of QIS4 all intangibles assets should be valued at nil.