Draft Risk Transformation Regulations 2017 Draft Risk Transformation (Tax) Regulations 2017

Steve Barclay Excerpts

Wednesday 29th November 2017 General Committees

[The Economic Secretary to the Treasury (Stephen Barclay)]

I beg to move,

That the Committee has considered the draft Risk Transformation Regulations 2017.

[The Chair]

With this it will be convenient to consider the draft Risk Transformation (Tax) Regulations 2017.

[Stephen Barclay]

It is a pleasure, Mr Davies, to serve under your chairmanship. The regulations introduce a bespoke regulatory and tax framework for insurance-linked securities business in the UK, completing a process that was announced at Budget 2015.

Insurance-linked securities enable insurers and reinsurers to transfer risk to the capital markets. That is an important and growing part of the global specialist reinsurance market. As of 2017, more than $90 billion-worth of insurance-linked securities have been issued. However, despite the importance of London as a global insurance hub, the rapid growth of the insurance-linked securities market has taken place elsewhere. That is why at Budget 2015 the then Chancellor announced that the Treasury, the Financial Conduct Authority and the Prudential Regulation Authority would work closely with the London insurance market to develop a fit-for-purpose framework for insurance-linked security business in the UK.

The regulations comprise four main elements. First, the regulations provide for UK regulators to apply a new authorisation and supervisory regime for the vehicles that issue insurance-linked securities in the UK. Secondly, the regulations introduce a new type of company called a protected cell company to enable multiple deals to be managed in a single company. Thirdly, the regulations set out the rules for the issuance of securities by protected cell companies, so that the interests of protection buyers and investors are protected. Finally, the tax regulations set out an appropriate and straightforward tax treatment for the transformer vehicles that issue these securities.

The Government are also introducing a new form of corporate body called a protected cell company in these regulations. A protected cell company allows for the efficient management of multiple insurance-linked security deals within a single company, rather than establishing a new vehicle for each individual deal.

The structure of a protected cell company requires each to be held in a cell, with each cell’s assets and liabilities ring-fenced from one another. That type of structure is already common in the insurance-linked securities market but has not been available in the UK until now. The PRA and the FCA will carefully supervise protected cell companies, with the PRA ensuring that each cell is fully capitalised.

The regulations ensure that only sophisticated or institutional investors can be offered insurance-linked securities in the UK and take on this risk. These are complicated financial instruments and it would be wrong for retail investors to be able to purchase them. Finally, the risk transformation tax regulations set out an appropriate and straightforward tax treatment for transformer vehicles that issue these securities in the UK.

To ensure that UK transformer vehicles are competitive and straightforward to use, under the regulations tax is charged at the level of the investor rather on the transformer vehicle itself. For UK investors, tax will be charged as normal, according to their circumstances. Non-UK investors will be taxed according to the rules of their home jurisdiction.

That tax treatment follows the policy aim of the UK’s existing tax regulations for insuring special purpose vehicles, which is set out in the Taxation of Insurance Securitisation Companies Regulations 2007, a document I know you are very familiar with, Mr Davies. The tax regulations we debate today provide for broadly similar outcomes but in a much more straightforward way.

In conclusion, Members have heard that insurance-linked securities are a growing market. Indeed, 2017 has seen record issuance of insurance-linked securities with more than $11 billion-worth in this year alone. It is, therefore, the right time for the UK to improve its offer in this market. The regulations have been welcomed by the industry and by the London Market Group, which represents London’s insurers and reinsurers. I commend the regulations to the Committee.

--- Later in debate ---

[Stephen Barclay]

I thank Committee members for their probing but very interesting questions about the rationale for this policy. The shadow Minister is right to say that we are proud of the insurance industry in the United Kingdom for its global reach and its potential. He mentioned the context of Brexit. These measures were initiated in the 2015 Budget, but Brexit reinforces the benefit of increasing the UK’s influence over this part of the market, which is already well established but is currently conducted offshore. Bringing it within the UK will give UK regulators—the Financial Conduct Authority and the Prudential Regulation Authority—more influence over it than they have under current arrangements. With Brexit, this is the kind of global business that the UK should be competing in. EU insurers already use these vehicles and deals outside the EU. We are discussing a business that is conducted outside the UK from which the UK has the potential to benefit, as opposed to a business that is currently conducted in Europe.

The shadow Minister raised safeguards. It is important to flag that, unlike conventional reinsurers, these vehicles do not pool risk; every deal must be fully collateralised. A transformer vehicle must raise and hold collateral that is at least sufficient to meet its insurance obligations, so an inherent safeguard is built into the design of these products. A further safeguard—it is important to reiterate this—is that the products can be accessed only by sophisticated or institutional investors, so there is no risk of retail investors failing to understand the products on the market.

Several Members raised the issue of tax. It is important to reiterate that the principle behind this tax treatment is similar to the way Lloyd’s members are currently taxed on their syndicate participation, albeit the mechanics of how it is achieved are different because of the different legal characteristics of the entities involved. Investors in Lloyd’s are treated as if they had participated in profit-generating insurance activities directly, rather than through an intermediary—a syndicate. Also, a vehicle cannot qualify for this tax treatment without authorisation from the UK regulatory framework—the Prudential Regulation Authority and the Financial Conduct Authority. That is a further safeguard.

The hon. Member for Aberdeen North, who speaks for the Scottish National party, asked, legitimately, whether any tax would be lost as a result of these measures. I reassure the Committee that the UK will not lose any revenue from this tax treatment, as none of the deals concerned are currently domiciled in the UK. There is already a similar treatment for transformer vehicles in UK legislation—the Taxation of Insurance Securitisation Companies Regulations 2007—but that legislation has been too complicated for the industry to use, so the draft regulations simplify the treatment of those vehicles.

It is also worth pointing out that international competitors already offer a similar tax treatment. Without a competitive and appropriate approach to this tax, the UK would lose out on business that is important to the future of our global reinsurance industry and to our position as a world leader in specialist reinsurance business. That was the shadow Minister’s opening point. As I said, UK investors will be taxed in the same way as they would be if they received interest or dividends from any other company. There is not an issue of lost taxation, because this tax will be applied to entities that are not currently domiciled in the UK.

I hope that I have addressed Members’ questions. I commend the draft regulations to the Committee.

Question put and agreed to.

DRAFT RISK TRANSFORMATION (TAX) REGULATIONS 2017

Resolved,

That the Committee has considered the draft Risk Transformation (Tax) Regulations 2017.—(Stephen Barclay.)