Solvency II is an EU legislative programme to be implemented in all

27 Member States, including the UK. It introduces a new,

harmonised EU-wide insurance regulatory regime. The legislation
replaces 13 existing EU insurance directives.
The key objectives of Solvency II are as follows:

Improved consumer protection: It will ensure a uniform and enhanced level of

policyholder protection across the EU. A more robust system will give policyholders
greater confidence in the products of insurers.
Modernised supervision: The Supervisory Review Process will shift
supervisors focus from compliance monitoring and capital to evaluating insurers
risk profiles and the quality of their risk management and governance systems.
Deepened EU market integration: Through the harmonisation of supervisory
regimes.
Increased international competitiveness of EU insurers.

The Three Pillars

Solvency II is not just about capital. It is a comprehensive programme of regulatory
requirements for insurers, covering authorisation, corporate governance, supervisory
reporting, public disclosure and risk assessment and management, as well as solvency and
reserving.
The Solvency II programme is divided into three areas, known as pillars:
Pillar 1

Pillar 2

Pillar 3

Capital Requirements

Governance &
Supervision

Disclosure

Two thresholds:
- Solvency Capital
Requirement (SCR)
- Minimum Capital
Requirement (MCR)

SCR is calculated
using either a
standard formula or,
with regulatory
approval, an internal
model.

MCR is calculated
as a linear function
of specified
variables: it cannot
fall below 25%, or
exceed 45% of an
insurer's SCR.
There are also
harmonised
standards for the
valuation of assets
and liabilities.

Structure

Effective risk
management
system.

Own Risk &

Solvency
Assessment (ORSA)

Supervisory review
& intervention.

Insurers required to
publish details of the
risks facing them,
capital adequacy
and risk
management.

Transparency and
open information are
intended to assist
market forces in
imposing greater
discipline on the
industry.

Solvency II will be implemented as EU legislation. Since 2001, the EU has sought to effect
financial services legislation though a standard framework, termed the "Lamfalussy
Process", which has four levels:
Level 1 - Primary legislation
This defines a proposals broad principles. Solvency IIs level 1 is the Solvency II
Framework Directive, formally entitled the Directive on the taking up and pursuit of the
business of insurance and reinsurance.
The Solvency II Framework Directive was adopted and published in the Official Journal of
the EU in December 2009. Certain provisions of this Directive, including the
implementation deadline, will be amended by the Omnibus II Directive. It is likely to be
finalised towards the end of 2013.
The Solvency II Framework Directive, once fully in force, will replace the EUs existing 13
insurance and reinsurance directives.
Level 2 - Implementing measures
These are more detailed requirements. Solvency II level 2 implementing measures will be
adopted by the European Commission, on the basis of advice from the European Insurance
and Occupational Pensions Authority (EIOPA), which is made up of representatives of
national supervisory authorities. Solvency II implementing measures will spell out the
detailed requirements that insurers must meet.
To prepare for level 2 implementation, the European Commission asked EIOPA to run
quantitative impact studies (QIS). To date there have been five QISs: the most recent, QIS5,
ran from August to October 2010.
Level 3 - Guidance
Guidance is one of the tools used to increase supervisory convergence. It is not binding on
Supervisory Authorities, but does present an opportunity to harmonise outcomes from
Supervisory Authority decisions. EIOPA is tasked with drafting the Guidance.
Level 4 - Post-implementation enforcement
After the deadline for implementation, the European Commission is responsible for
ensuring that member states are complying with the legislation. If they are not doing so,
the Commission will take enforcement action.