(Bloomberg) — Insurers would potentially be able to use billions of pounds of expected gains from a relaxation of capital rules for share buybacks and to pay dividends, under plans by both candidates to succeed Boris Johnson as UK prime minister.
Foreign Secretary Liz Truss and former Chancellor of the Exchequer Rishi Sunak have both said overhauling Solvency II capital requirements, a legacy of the UK’s European Union membership, is a key part of a drive to boost the UK’s competitiveness. But people with knowledge of the candidates ‘ thinking said they wouldn’t limit what the cash could be used for.
The government set out proposals to ease Solvency II earlier this year as part of its push to cut red tape after Brexit and to free up cash for insurance companies to invest in infrastructure. The Association of British Insurers said last year that reforms could release as much as £95 billion ($116 billion) to boost the UK economy and tackle climate change.
A person familiar with Truss’s plans told Bloomberg that restrictions on the use of capital for share buybacks and dividends wouldn’t be necessary, and could be counterproductive to boosting investment. A person with knowledge of Sunak’s thinking said such proposals would be unworkable.
A spokesperson for Sunak’s campaign stressed that the primary purpose of the reforms is to free up capital to invest in long-term infrastructure. The person familiar with Truss’s plans agreed with that aim, adding that as long as the changes are carried out correctly, there would be no need to ring-fence the cash.
While the candidates may not intend to open the door to insurers diverting the cash to pay-outs rather than investing in infrastructure and environmental projects, that could be the outcome, some experts believe.
The Financial Inclusion Centre, an independent think tank, highlighted the risk in a submission to the government’s Solvency II consultation and said regulators should ban insurers from distributing the windfall to shareholders. Any plans for using the cash should be overseen by independent governance committees and approved by regulators, the body said.
Ros Altmann, a peer and former UK pensions minister, said it would be a “travesty” if insurers do not use the money for long-term projects to benefit society. “I hope that that’s not what’s going to happen.”
The companies must not be allowed to use the cash for payments to executives or shareholders, said Isabella Salkeld, UK policy senior officer at campaign group ShareAction. “No capital freed up by Solvency II reforms should be distributed to shareholders or used to increase remuneration to parties within the insurance firm.”
Sam Woods, head of the Prudential Regulation Authority, has raised objections to some aspects of the government’s proposed shake-up, saying in a speech in July that some insurers might regard the changes as “a free lunch”.
Woods added that the reforms “should free up a significant amount of capital for insurance companies across the sector, which they could choose to re-deploy into investment if their boards support that course of action rather than returning it to shareholders.”
The ABI did not comment on the use of the capital. Following Woods’ speech the body said expected gains from Solvency II reforms may not be as great as initially expected, and that some insurers may end up having to hold more capital.
The Solvency II reforms have become a focus in wider political debate as their progress through Parliament comes amid the Conservative leadership race, with both of Johnson’s potential successors stressing ways to deliver Brexit benefits as part of their campaign.
But allowing any of the funds to be diverted to shareholders would run counter to the reasons for relaxing Solvency II, according to Charles Graham, senior European Union insurance analyst at Bloomberg Intelligence.
“The government has been seeking an alternative source of funding to national debt for infrastructure projects linked both to leveling up and green energy investment,” Graham said. Using the money for buybacks and dividends “would defeat the whole purpose of the exercise.”
One way to avoid the cash going to shareholders could be new restrictions, but that might clash with the agenda to cut back on rules.
“Solvency II is already really complex. Maybe adding in an extra layer of quasi capital that you can invest in the productive economy, but not give to shareholders, would be writing new rules on top of the many rules that are already in existence,” said Duncan Barber, a partner at the law firm Linklaters, whose clients include insurers. “Arguably that would be too much regulation. Insurers should be free to do what they want.”