Insurance (prudential standard) determination No. 19 of 2008
EXPLANATORY STATEMENT
Prepared by the Australian Prudential Regulation Authority (APRA)
Insurance Act 1973, paragraphs 32(1) (a) and (b)
Paragraphs 32(1)(a) and (b) of the Insurance Act 1973 (“Insurance Act”) provides that APRA may determine, in writing, standards relating to prudential matters that must be complied with by general insurers and authorised NOHCs. Pursuant to subsection 32(5A) of the Insurance Act and paragraph 6(d) of the Legislative Instruments Act 2003, such Prudential Standards are legislative instruments for the purposes of the Legislative Instruments Act 2003.
- Background
This Explanatory Statement is concerned with the introduction of a new prudential standard, Prudential Standard GPS 113 Capital Adequacy: Internal Model-based Method (GPS 113), which deals with the use of internal models by general insurer and insurance groups to determine their minimum capital requirement (MCR).
Prudential Standard GPS 110 Capital Adequacy for General Insurers made by Insurance (prudential standard) No.7 of 2006 (old GPS 110) was revoked on 23 June 2008 by Determination No 2 of 2008, which replaced that standard with Prudential Standard GPS 110 Capital Adequacy (new GPS 110). Attachment B to old GPS 110 set out the requirements for the use of an internal model. When old GPS 110 was revoked, Attachment B was intended to be replaced by a separate standard covering the use of an internal model. That was not done at the time due to the consultation process that was intended to take place from June to August 2008. At the time, no insurer was using the Internal Model-based Method (IMB Method) to determine its MCR so it was not crucial that a new standard be determined immediately upon revocation of old GPS 110.
There have been significant developments since 2002, in Australia and internationally, and in both banking and insurance industries, in the use of internal models. Accordingly APRA has reviewed and revised the requirements in its prudential standards in relation to use of the IMB Method. These revised requirements are set out in GPS 113.
2. Purpose of the Instrument
The purpose of the determination is to make a new prudential standard covering the use of internal models by general insurers, replacing Attachment B to the old GPS 110 and taking into account significant recent developments in the use of such models.
3. Operation of the Instrument
Under new GPS 110, an insurer may determine its Minimum Capital Requirement (MCR) using a prescribed method based on requirements contained in:
- new GPS 110;
- Prudential Standard GPS 114 Capital Adequacy: Investment Risk Charge;
- Prudential Standard GPS 115 Capital Adequacy: Insurance Risk Charge; and
- Prudential Standard GPS 116 Capital Adequacy: Concentration Risk Charge,
or it may determine its MCR using the IMB Method subject to APRA’s approval to do so.
GPS 113 also has application in relation to the determination of the capital required to be held by an insurance group. Prudential Standard GPS 111 Capital Adequacy: Level 2 insurance groups requires a Level 2 insurance group to determine its MCR using either the prescribed approach or the IMB Method. GPS 113 also applies to the use of the IMB Method by Level 2 insurance groups.
4. Consultation
APRA undertook extensive consultation between June and August 2008 on proposals that are now reflected in the final standard. The responses to the consultation indicated that industry was supportive of APRA’s requirements with only minor technical amendments made as a result of the consultation process.
Overview
The Insurance (prudential standard) determination No. 19 of 2008, introduced by the Australian Prudential Regulation Authority (APRA) under the authority of the Insurance Act 1973, addresses the need for updated prudential standards relating to the use of internal models by general insurers and insurance groups to determine their minimum capital requirements. This legislative instrument seeks to replace the requirements previously set out in Attachment B to the old Prudential Standard GPS 110, which was revoked in 2008, and to incorporate significant recent developments in the use of internal models. The policy objective behind this determination is to ensure that insurers maintain adequate capital levels to safeguard against potential risks, while also allowing for the use of more sophisticated internal models subject to APRA's approval.
Scope and Application
The Insurance (prudential standard) determination No. 19 of 2008, as outlined in the Explanatory Statement prepared by the Australian Prudential Regulation Authority (APRA), applies to general insurers and authorised non-operating holding companies (NOHCs) as defined under the Insurance Act 1973. This legislation governs the standards relating to prudential matters that must be adhered to by these entities. Specifically, it establishes a new prudential standard, GPS 113, which addresses the use of internal models for determining minimum capital requirements (MCR) by general insurers and insurance groups. This standard replaces Attachment B to the previously revoked Prudential Standard GPS 110 Capital Adequacy (old GPS 110) and incorporates recent developments in the use of internal models, both domestically and internationally. APRA's determination ensures that these entities comply with updated requirements for capital adequacy, reflecting significant advancements in the industry since 2002. The scope of this legislation extends across the Commonwealth, impacting all authorised insurers and insurance groups operating within Australia, thereby ensuring a consistent and robust regulatory framework.
Key Provisions
The primary operative sections of this legislation, GPS 113, are those that outline the new prudential standard for the use of internal models by general insurers and insurance groups to determine their minimum capital requirement (MCR). This standard replaces Attachment B of the old Prudential Standard GPS 110 (GPS 110) and is intended to reflect recent developments in the use of internal models. Under this standard, insurers can choose to determine their MCR either by using a prescribed method or by applying the Internal Model-based Method (IMB Method), subject to approval by the Australian Prudential Regulation Authority (APRA).
The obligations and requirements imposed by GPS 113 on the parties it governs include the need for insurers to adhere to the specified prudential standards when determining their MCR. For those insurers choosing to use the IMB Method, APRA’s approval is a prerequisite. The standard also mandates that Level 2 insurance groups must determine their MCR using either the prescribed approach or the IMB Method, with the latter requiring APRA’s approval. In implementing these standards, insurers must ensure their models and methods comply with the regulatory requirements and undergo periodic review and validation by APRA to maintain their approval status.
Failure to comply with the provisions of GPS 113 can result in significant legal and financial consequences. The Insurance Act 1973 stipulates that non-compliance with prudential standards can lead to civil and criminal penalties. Civil penalties can include fines, while criminal penalties may involve imprisonment, reflecting the importance of adhering to these standards to maintain the stability and integrity of the insurance industry. The specific penalties for breaches are not detailed in the explanatory statement but are typically outlined in the relevant sections of the Insurance Act and other applicable legislation.