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Spain: Impact of Solvency II in the Insurance Companies' Equity Capital

Álvaro Requeijo

08 December 2014
The Preliminary Draft of the Insurance and Reinsurance Entities' Organization, Supervision and Solvency Act which will transpose into Spanish Law the Directive 2009/138/CE (Solvency II) was recently published introducing important developments regarding the current legislation. As foreseen in the Directive, the three pillars are the known ones:(i) capital requirements, (ii) the new supervision system for a better risk management and (iii) the information and transparency requirements for the market.

Concerning the first of the pillars, the requirements of the capital solvency will be determined by two levels of needs:

  • The obligatory solvency capital, which varies depending on the risk assumed by the entity and it is based in a prospective calculation; and
  • The minimum obligatory capital, which is simply a security minimum below which the financial resources should never drop.

These limits imply the need of a strict classification and organization of the equity capital of an insurance company. In this regard, the use of equity capital to cover the need of obligatory solvency capital shall only be possible if subject to an authorization of the Spanish Insurance Supervisor, the General Insurance and Pension Funds Directorate ("DGSFP").

The sole establishment of those solvency limits may condition the insurance companies' investment policies. Investment may not only have an impact in assets and liabilities, but also in such aforementioned solvency limits and in the ultimate amount of the equity capital.

In brief, the solvency image of an insurance company may be affected by the composition of the equity capital and the calculation of the solvency limits. Any increase of the equity capital may oblige the company to re-calculate at least the obligatory solvency capital due to the existence of new financial resources.

These decisions may indirectly have an enormous impact over (i) issuance of capital or debt, (ii) profit distribution, (iii) or even pricing policies.

Álvaro Requeijo

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