FSA statement on reinsurance arrangements at Equitable Life

On 24 September 2001, Equitable Life provided the FSA with a copy of a letter of understanding dated 1 April 1999 from the then Appointed Actuary, Christopher Headdon, to the Irish European Reinsurance Company, which provided reinsurance to Equitable Life. The existence of this side letter to the reinsurer had not previously been disclosed to the FSA (nor, so far as we know, to Equitable Lifes auditors) and its legal implications were not clear. The new management of the Society said that they themselves had only recently become aware of its existence.

The FSA took the view that the contents of the letter raised questions about the true value of the reinsurance contract that Equitable Life had entered into in early 1999 and which was shown in its regulatory returns. The FSA concluded that, had it been aware of the letter at the earlier stage, it would not have been prepared to accept the reinsurance arrangements as providing as much security for reserving purposes as was in fact taken.

The FSA will be making further enquiries about the circumstances in which this letter was written and the intentions of the parties concerned. Consideration will be given to whether any action should be taken by the FSA or by other authorities. Equitable Life has told the FSA that they have instructed lawyers Herbert Smith to include this issue in their investigations into possible rights of action against various parties.

Equitable has now advised the FSA that it has renegotiated its contract with its reinsurer. The FSA has seen and reviewed the terms of a renegotiated reinsurance agreement and has confirmed that it has no objection to them. However, in the light of advice from leading Counsel, the FSA has taken the view that the value that Equitable Life should reasonably ascribe to the reinsurance contract is lower than it previously took. The FSA has made clear to Equitable Life that it must properly disclose the effect of the revised agreement, so that policyholders are made aware of the impact on Equitable Lifes financial position for regulatory purposes.

On the basis of the information received by the FSA, Equitable Life continues to meet its regulatory solvency requirements even taking account of the lower credit for the revised reinsurance policy. Neither the original reinsurance treaty nor the renegotiated treaty impact on the Companies Act accounts or the value of the with profits fund.

The FSA has already announced that an important part of the project led by FSA managing director John Tiner on the future of insurance regulation will be focused on financial reinsurance, with a view to eradicating market practices that are no more than window dressing.

Notes for editors

1. When the Treasury became aware in late 1998 of Equitables GAR exposure, it required Equitable to set up a significant reserve for this potential liability in its regulatory returns. Since the Equitable had not built up reserves for this purpose, that resulted in a significant step change in the effect of the regulatory reserving requirement. The Equitable then entered into a financial reinsurance agreement to reduce the strain on the regulatory balance sheet. This form of financial reinsurance is not uncommon practice in the insurance market; and the FSA was content with the Equitable for proceed in this way. The reinsurance agreement impacted only on the regulatory returns, and not on the Companies Act Accounts, nor did it have any impact on the value of the with-profits fund.

2. The FSA currently undertakes insurance industry regulation under powers delegated from HM Treasury. From midnight on 30 November 2001 the FSA will receive its full powers under the Financial Services and Markets Act.

3. The FSA regulates the financial services industry and has four objectives under the Financial Services and Markets Act 2000; maintaining market confidence; promoting public understanding of the financial system; appropriate protection for consumers; and fighting financial crime.

4. The FSA aims to maintain efficient, orderly and clean financial markets and help retail consumers achieve a fair deal.