The High Court of England and Wales in August rejected an application for the sanction of a transfer of annuity policies. The Prudential Assurance Company (PAC) and Rothesay Life Plc (Rothesay) sought court sanction pursuant to Part VII of the Financial Services and Markets Act 2000 (Part VII and FSMA) for a scheme (the Scheme) to allow the transfer of approximately 370,000 annuity policies written by PAC to Rothesay. The Scheme did not propose to make any changes to the terms of the transferring policies and was considered by an independent expert, the Prudential Regulation Authority (PRA) and Financial Conduct Authority (FCA), none of whom objected to the Scheme. Following the High Court judgement, PAC and Rothesay have lodged a Court of Appeal notice of joint appeal.
In this article, we highlight some key points from the judgment and go on to look specifically at the possible implications for insurers seeking to transfer books of insurance business under the jurisdiction of the Irish courts.
Background to the Scheme
The Prudential Group announced its plans to de-merge its UK and European business operations from its business in Asia, America and Africa. To facilitate the de-merger the Group needed to release regulatory capital from its UK and European business. As a result, PAC entered into two agreements with Rothesay; a Reinsurance Agreement that Rothesay would reinsure 400,000 of PAC’s policies and a Transfer Agreement that the bulk of the business reinsured by Rothesay would subsequently transfer under Part VII to Rothesay. The Reinsurance Agreement would terminate if the Scheme was sanctioned and continue if the Scheme was not sanctioned (unless otherwise terminated by the parties).
The High Court Decision
Despite the opinion of the independent expert, and the non-objection of the PRA and FCA, the Court refused to sanction the Scheme for a number of reasons:
- Buying an annuity has particular implications as the policyholder cannot change provider after the initial purchase or encash the policy and receive a value. The opposing policyholders argued that they chose PAC, amongst other factors, because of its longevity and reputation. Mr Justice Snowden, delivering the judgment, agreed that these were rational reasons for policyholders to choose PAC.
- While Snowden J rejected the policyholder’s argument that PAC made a contractual promise to policyholders that it would not seek to transfer their policies to another provider, he noted that none of the Annuity Policy documents made a reference to the possibility of a Part VII transfer and instead included statements such as “a lifetime annuity with Prudential”.
- The annuities to be transferred represented policyholders’ life savings and were intended to last the duration of the lifetime of each policyholder. As such, it was not appropriate to dismiss the possibility of PAC or Rothesay’s requiring financial support at some stage in the future. The Court held that the reliance which policyholders would then have to place on an uncertain capital raising exercise by Rothesay was a material disadvantage of the Scheme.
- Although the Scheme was intended to give legal form to economic reality that had already been created by the Reinsurance Agreement, it would fundamentally change the relationship between PAC and the transferring policyholders. Furthermore, as the Reinsurance Agreement enabled PAC to achieve its aim of reducing its regulatory capital, PAC’s proposed de-merger was not dependent upon the Scheme being court sanctioned.
Snowden J concluded by stating that the court’s discretion is not constrained to the same actuarial factors and statute-based mandate which guide the analyses of the independent expert and the PRA and FCA, therefore the court can take more factors into account in striking a balance between the policyholders’ interest and the commercial interests of the applicants. The Court’s assessment of the broad range of factors led to the conclusion that a number of the factors weighed heavily against the sanctioning of the Scheme.
Snowden J concluded that the refusal of the Scheme would not make it considerably more difficult for PAC to utilise a Part VII in relation to the annuity policies, or for Rothesay to acquire further annuity policies. The Court noted that the result may have been different if PAC’s purpose for the transfer was different or there was less disparity between the transferor or transferee in the characteristics that policyholders reasonably considered important when selecting PAC as their annuity provider.
Important Points for Consideration Arising from this Decision
- The decision shows how far the English judiciary is willing to go in exercising its discretion whether to approve a Part VII transfer, as well as highlighting the broadness of this discretion which is even wider than the scope of regulatory supervision pursuant to Solvency II and other legislation.
- In assessing financial strength, the Court considered that a comparison of SCR ratios alone is not sufficient. Consideration should also be given to capital management policies and the likelihood of discretionary group capital support.
- Transfers from large insurance groups to specialist run-off acquirers might be affected, as the court might conclude that the run-off acquirer will be:
- less able to draw on additional group capital, if it is part of a smaller and/or less well-capitalised overall group, and/or
- less likely to be able to draw on additional group capital as its investors will have less of a reputational imperative to ensure policyholder payments. Whilst this aspect will be particularly relevant for life insurance, it should not be discounted for general insurance also, especially longer-tailed lines.
- Special consideration will need to be given to transfers of annuities given the expected duration of those policies, the inability of policyholders to transfer to another insurer or receive a surrender value and the “catastrophic” consequences for policyholders if payments are not met.
- Transfer of other life saving-type policies, especially of longer duration, may also be impacted by this judgment, though the relevance may be mitigated by the ability to obtain a surrender value or transfer to another insurer at the policyholder’s discretion.
- Conclusions of an independent expert reached on the basis that an outcome is extremely unlikely to occur might not be accepted as valid by the court (particularly in the case of long term and/or life savings policies).
- The decision casts doubt on the following previously accepted principles, articulated in transfers involving with-profits insurance policies, which the Court noted must be read in that context:
- it does not matter if individual policyholders or groups of policyholders are adversely effected, provided the proposed transfer is fair as a whole;
- it is not for the Court to look for the best possible transfer, but to decide whether the transfer in question is fair.
An Irish Context – Could it Happen Here?
In Ireland, portfolio transfers are governed by the Assurance Companies Act 1909 which provides that:
“The Court, after hearing the directors and other persons whom it considers entitled to be heard upon the petition, may sanction the arrangement if it is satisfied that no sufficient objection to the arrangement has been established.”
This contrasts with the UK, where Part VII sets out several conditions which must be satisfied before the court may make an order sanctioning an insurance business transfer scheme. In particular, the courts in the UK are bound “to consider that, in all the circumstances of the case, it is appropriate to sanction the scheme.” Accordingly, the standards that the Irish and UK courts must consider in reaching a decision are quite different: “no sufficient objection” compared to “appropriate (in all the circumstances of the case)”. Nonetheless, the relative absence of detail or specific criteria in the Irish legislation may cause the Irish courts to pay considerable attention to UK precedents.
The fact that there were a significant number of objections to the Scheme is also a relevant factor (albeit the judgment makes clear that the objecting policyholders represented about 0.4% of all policyholders covered by the proposed transfer) – strenuous objections from policyholders have traditionally been less of a factor for Irish portfolio transfers.
Insurers may also take heed of some of the key points in the judgment and may in future take actions available to them that might limit or remove their relevance:
- Annuity providers (in particular) may consider adding wording to policy documents and other policyholder literature that acknowledges the possibility of the business one day transferring to another provider.
- “Interim” reinsurance arrangements in advance of a proposed transfer may have automatic recapture provisions in the event of rejection of the scheme of transfer included, to address the argument that the reinsurance arrangement achieves the economic effect intended for the proposed transfer. However, such a clause may disadvantage a bidder in a competitive auction sale process.
It is worth noting that the decision considered here is relevant only to portfolio transfers that are subject to court approval. It should have no relevance to share sales as they do not involve a court approval process and the criteria by which the Central Bank of Ireland reviews share sales is prescribed by statute.
Given the decision of PAC and Rothesay to lodge a joint appeal (which is currently expected to be heard by 2 November 2020), the ultimate impact of this case in either the UK or Ireland may not be known for some time, but insurers considering transfers especially of annuities or other long-term business, will need to consider carefully the possible implications of the High Court judgment.
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