June 2014

A framework for developing a reinsurance hub in India

Contents Foreword

1

Executive Summary

3

I. Objective

6

II. The Indian insurance sector

7

III. Pivotal role reinsurance can play in supporting the insurance sector

12

IV. Framework for developing a reinsurance hub in India

17

V. Key elements: Regulations – Taxation – Dispute resolution A. Recommendations for changes to key

legislation and regulations B. Taxation framework C. Dispute resolution

23

24 39

VI. Appendices: Appendix 1: ONE Insurance Vision Appendix 2: International reinsurance hubs

44

VII. References

64

1

Foreword

India has exceptional demographics, high savings rate and a massive demand for

infrastructure development. It is projected that India will grow to a significantly large

economy in the next few decades. With a view to tap demographic dividends, heavy all-

round investments is needed.

Financial services including insurance, exert a major impact on the long term economic

growth of a country, several research studies show that countries with well developed

financial systems tend to grow faster.

Insurance penetration in India is very low and offers tremendous long term growth potential.

India is also one of the most Nat Cat prone countries in the world.

Most financial services and products are internationally tradable and are termed as

`international financial services' (IFS). However, their production is concentrated in a handful

of `international financial centers’ (IFCs). One of the offshoots of this is, the need for an

International Reinsurance Hub in India, which needs to be developed by having the best of

Reinsurance markets, companies and in providing them with a conducive platform to let

them perform their authorised functions.

London, New York, Frankfurt, Singapore, Tokyo, Hong Kong as international financial hubs are

great success stories for the global economy and for the respective countries. The

reinsurance sector features very strongly in major global financial centres. Other financial

centres such as Shanghai and Dubai are fast catching up, and India needs to act swiftly

Reinsurance is an industry that is truly global in nature. Reinsurers’ presence in India would

generate economic benefits for industries beyond the insurance sector, help create skilled

jobs and enable the dissemination of technical, managerial knowledge and expertise to the

wider Indian insurance industry helping support the modernisation of the Indian insurance

sector.

An Indian reinsurance hub will attract major international financial service brands to India; it

will also firmly demonstrate that India is committed to its sustained economic growth, and

open for business with its international trading partners. Furthermore, reinsurers will be able to

play a fundamental role in developing India into a significant international financial centre.

Indian Merchants’ Chamber (IMC), in January 2013, organised a symposium on Developing a

reinsurance hub in India, and engaged with the market and key stakeholders such as Mr.

Yashwant Sinha and Mr. Piyush Goyal, who endorsed the concept wholeheartedly.

Following on, in October 2013 the City of London organised a roundtable discussion with

leading international reinsurers and insurers in London.

The January 2014 round table organised by IMC and the City of London in Mumbai discussed

the desired framework for a reinsurance hub in India with a panel of distinguished Indian and

international insurance and reinsurance firms, GIC Council and other financial sector experts,

law firms and tax consultants.

This paper is a compilation of all the previous deliberations, comments and contributions from

all the participants and industry stakeholders and provides a framework for creating a

reinsurance hub in India. We are delighted to present this to the policy makers in India.

Prabodh Thakker

President – IMC

2

Acknowledgements We would like to thank the representatives from the following firms for their inputs and

invaluable feedback:

Ashvin Parekh Advisory Services

AZB & Partners

Catlin Group

General Insurance Council

GIC Re

GIFT – Gujarat

Global Insurance Brokers

ICICI Lombard General Insurance

JMP Advisors

Khaitan Sud & Partners

L&T General Insurance Company

LCIA India

Lloyd's of London

McKinsey& Co.

New India Assurance

Oxford International

SPM Capital Advisers Pvt. Ltd.

Swiss Re

Travelers

Tuli& Co.

3

Executive Summary

India needs a modern, transparent and progressive framework and a global reinsurance

platform.

One Insurance Vision has the following key focuses:

a. Currently, there are myriads of laws (primary legislation) in India, which impinge on the

insurance industry in India, involving number of Central Government Ministries and

departments, with their own motivations. The objectives need to be aligned and be

amalgamated into one overarching primary level insurance legislation.

b. It is equally important that the framework to govern prudential regulation should not be

addressed in primary legislation; instead the Insurance Regulatory and Development

Authority (IRDA) should be conferred with powers to draft and implement such

regulations. Setting down detailed requirements in primary legislation, restricts the ability

to modify regulations quickly and effectively. In contrast, granting the IRDA the authority

to draft and set the prudential regulatory framework would enable it to amend the rules

with changing circumstances, events - an important tool required in a dynamic

supervisory environment.

c. There is a need for a calibrated shift to prudential regulations, and a shift from a rules-

based regulatory frame work to a principles based approach with minimal, focused

interventions to elicit a robust market response. To strive to promote a regulatory regime

that embodies minimum regulation and maximum supervision.

d. Introduce environmental and behavioural improvements in line with global best

practices, in order to allow the Indian market to realise its full potential. Deepen

professional practices and services which are transparent and growth oriented that

ensure accountability at all levels

e. Develop effective risk based capital and solvency norms, along with early public listing of

all insurers

The objective of the ONE Insurance Vision is letting the regulator set the tone in the market; to

encourage sustained non-inflationary economic growth, and enable the development of a

sound and progressive global reinsurance centre in India.

Role of Re insurance

In essence, reinsurance is insurance for insurance companies. Internationally, reinsurance is

conducted as a business to business transaction concluded freely cross – border. The

function of reinsurance is to transfer risk from insurers to re insurers, reducing volatility by

pooling and diversifying risks across diverse classes of business & markets.

Reinsurance is an industry that is truly global in nature. Reinsurers are able to assume some of

the world’s largest and most complex risks because they spread risk on a global basis.

4

Major international financial centres such as London, New York, Singapore, Frankfurt, Tokyo

and Hong Kong have evolved into well developed international reinsurance hubs. Several

new centres such as Dubai and Shanghai are fast developing into regional hubs.

India will benefit enormously by developing itself as a reinsurance hub; to do so it will need to

create a strong financial services platform and infrastructure, to attract the best of re

insurance markets and companies to come and set up operations in India.

Reinsurance Branches – Benefits for India

1. An on-the-ground presence in India will enable - reinsurers to increase their

understanding of the risks to which the Indian economy is exposed, enabling their

underwriters to introduce new and innovative products tailored to serve the needs of the

Indian clients.

2. Transfer of Expertise and Market Modernisation - A reinsurer’s presence in India will both

create skilled jobs for Indians and enable the dissemination of its technical and

managerial knowledge and expertise to the wider Indian insurance industry

3. Support for India’s continued economic growth - Reinsurers’ presence and activities in

India would generate economic benefits for industries beyond the insurance sector.

Lloyd’s has established local platforms in the key emerging economy financial centres,

including Singapore, Rio de Janeiro and Shanghai. In each of these cases, Lloyd’s presence

has significantly contributed to the development of a cluster effect, with other insurers and

auxiliary services such as brokers, lawyers, accountants and IT service providers establishing

operations to service reinsurance activities.

The entry of major international financial service brands in India will firmly demonstrate that,

India is committed to its sustained economic growth, and open for business with its

international trading partners. Furthermore, as has been the case in the above mentioned

examples, reinsurers will be able to play a fundamental role in developing India into a

significant international financial centre.

5

FRAMEWORK FOR DEVELOPING A REINSURANCE HUB IN INDIA

ONE INSURANCE VISION

* Gujarat Internal Finance Tec-City (GIFT) aspires to cater to India’s large financial services potential by

offering global firms a world-class infrastructure and facilities

Step1: Legislative and administrative changes required

Passage of the Insurance

(Amendment) Bill, 2008

Implement Taxation Framework

Recommendations

Implement robust Dispute Resolution

Mechanisms

Improve social infrastructure to

attract global talent

Step 2: Creation of reinsurance regulatory framework

Policy Framework

Indian reinsurance companies to adopt principles governing licensing, capital

adequacy, risk management and governance as highlighted by the

International Association of Insurance Supervisors

Foreign Reinsurance branches in India

The legal and regulatory framework governing foreign re insurer branches in India should recognize the home state regulation. IAIS framework to govern

prudential regulation aspects of foreign re insurer branches in India to be adopted

Cedent Responsibility model

Legal framework to govern the prudential regulation of foreign re insurer branches should focus on the ability of the ceding

insurer to demonstrate that it understands and can manage its reinsurance cedant

risks

Step 3: Creating the right ecosystem for the primary insurance market

One Insurance Vision

Need for Government / regulatory support for ONE

Insurance Vision

Regulator as a facilitator

The regulator to operate a robust performance

framework

Insurance Cluster

Identifying / creating a geographic location with a concentration of insurance

service providers.

Step 4: Developing an International reinsurance hub in India under International Financial Services Centre (IFSC) route of SEZ (GIFT)*

Implement broad recommendations on IFSC rules

Move towards fuller capital account convertibility (CAC)

6

I. Objective

The objective of the paper is to substantiate to the policy makers and regulators; the key

benefits for the Indian economy, especially to its financial services sector and the Indian

insurance market - if India developed itself as a reinsurance hub;

Reinsurance is distinct from insurance; and this paper emphasises the critical role

reinsurance can play in supporting the Indian economy and its financial system. The

paper is based on the premise that the development of India’s reinsurance sector is

deeply connected and critical to the insurance sector; as well as for the overall

development of the financial services sector in India.

This paper highlights the significant benefits for India - in developing a global reinsurance

hub, critical reasons that make India attractive to foreign reinsurers, the rationale for the

need for 100% ownership by foreign reinsurers and the reason why it is important to have

the option to establish branches rather than subsidiaries.

It highlights the critical reforms and amendments that will be required in regulations,

infrastructure, taxation norms, legal and professional services.

The paper illustrates how the entry of major international financial service brands will be

beneficial to India..

7

II. The Indian insurance sector The emerging risk landscape for India is massive; with risks ranging from earthquakes,

landslides, tsunamis, sub-normal monsoons, food insecurity, water scarcity, health

pandemics, exposure to cyber-attacks or other technological threats. Macro-risks are not just

confined to the cyber world, climate change and space. Perhaps a bigger challenge in

India is, the lack of robust historical data available for modellers, actuaries and underwriters

to evaluate and assess these risks.

India’s topography is acutely vulnerable to natural hazards. Of the 35 Indian states and Union

Territories, 27 are known to be exposed to several types of disasters. More than 50% of the

land is prone to earthquakes of moderate to very high intensity; about 12% of the land is

prone to floods and river erosion; 5,700 km of coastline is susceptible to cyclones and

tsunamis; a significant part of India’s agricultural land is vulnerable to drought and almost all

of its mountainous regions face the risk of landslides and avalanches.

India’s insurance market has experienced impressive growth in the last decade, yet

penetration remains low at 3.96%. According to the IRDA’s projections, the life insurance

industry will need additional capital of at least Rs 400 billion (or about $6.5 billion) to achieve

an insurance penetration level of 8% of GDP. According to another source, the country's

insurance sector needs capital of around US$12 billion up to 2020.

Key impediments for the insurance sector to address are:

1. Poor penetration and density of the market: As stated above, for the size of the Indian

economy, India has a poor level of insurance penetration and density. Total penetration

at 3.96% is less than world average of 6.5%. India is currently among the top ten

economies in nominal GDP, and third largest in terms of purchasing power parity

however insurance penetration in India is well below the national averages of many

similar sized economies.

2. Life: Though there has been growth in this sector, a higher penetration ratio than the

current 3.17% is very much needed. In India, there is virtually no social security cover ;and

only a limited pension benefit is provided to those employed outside the remit of the

organised1 sector. A 2008 survey by the National Council for Applied Economic Research

(NCAER) with Max New York Life shows that while 78% of the people were aware of life

insurance, although ownership of products was only 24%. Furthermore, less than 11% of

the total workforce in India – which the survey puts at 28.7 million people -are covered by

insurance. The existing life insurance penetration is driven by the salaried and self-

employed, which are influenced to a large extent by tax incentives offered in return for

investments in insurance. As India deliberates, on the necessary tax reforms and works out

its approach for a new Direct Tax Code (DTC), there is a likelihood of many exemptions to

be weeded out and several others made taxable. The levels of penetration in (life) are

relative to tax benefits, and one cannot presume these current levels will continue to

sustain.

3. Non-Life: Although India has the third largest cluster of micro, small and medium

enterprises globally (estimated 26 million), and over 15 million small retail outlets.

1Organised sector firms in India refer to those firms/establishments that are registered by the

government and have to follow its rules and regulations which are given in various laws such as the

Factories Act, Minimum Wage Act, Payment of Gratuity Act, Shops & Establishment Act, etc.

8

Penetration levels for ‘general’ (non-life) insurance products are abysmally lower; at a

meagre level of 0.78%..

4. Density: Poor penetration of insurance is accompanied by low density (per capital

spend). This is illustrated by the absolute numbers in insurance spend, across sectors in

India. Currently insurance density in India is US$ 64.4. That is just about 1/10th of the world

average of US$627.3. India compares poorly with its Among the BRIC – density in Brazil is

over five times higher at US$ 327.6 over four times in Russia at US$ 296.8 and three times in

China of US$ 158.4. When the overall density is spliced by segment, the picture is far

worse. In the ‘life ‘segment density is at US$ 55.7; which is low when compared to other

countries. The total premium collected was around Rs 3 trillion in the life segment. In ‘non-

‘life’, the numbers are still lower , India has a density of US$ 8.7, compared to China for

instance, which has a density of US$ 52.9.This demonstrates clearly that the economy is

under-insured, vulnerable to severe shocks.

5. Health: Only a small proportion of the population is covered by medical insurance. The

Planning Commission estimates that nearly 300 million people in India have health cover,

but these numbers refer to those covered by central government and employees’ state

insurance schemes. In a population of 1,265 million, barely 55 million pay for private

health insurance. More importantly, the present structure of health insurance covers only

hospitalisation; all out-of-pocket expenses have to be borne by individuals, in the event

of any critical illnesses there is limited support from the health insurance schemes often

triggering downward economic mobility for the families of those affected by major

illnesses. Government spending on public health is low, and nearly 80% of health

expenditure is borne by individuals. A World Bank study states that only 7 out of 100

Indians are currently buying health insurance. Going forward, this cannot be sustained, as

healthcare costs continue to escalate.

The reality of the healthcare structure is that over 80% of doctors, 49% of beds, 60% of in-

patient care and 78% of the ambulatory services are private. Eventually the government

will have to partner with the private sector to expand coverage of healthcare services.

Private healthcare providers running small family clinics, hospitals and hospices run by

charitable institutions are a dominant feature of the Indian healthcare sector. Although

government sponsored health insurance schemes are increasingly enrolling private

providers for in-patient care-these needs to be expanded to accommodate ambulatory

care, which accounts for two-thirds of critical out of pocket expenses in India today. With

barely 9 hospital beds per 10,000 people vis-à-vis the WHO norm of 30 per 1000, India is

grossly under-equipped in terms of its capacity to provide healthcare. Sufficient

investments for wider healthcare provision simply will not be possible without substantially

enhancing and expanding the private health care insurance. India has had ‘insured’

health care since 1950s, when the employees state insurance scheme was launched,

followed by the central government health scheme. But the expansion of health care

outside the ambit of formal employment (especially in the public sector) is significantly

limited. Globally across income strata it is well established that universal healthcare can

only be provided, with a mix of private funded insurance which is driven by tax incentives

and government funded schemes. A number of developing countries like Argentina,

Brazil, South Africa, Kenya, South Korea, Iraq, Iran, Thailand and Sri Lanka have evolved

single-payer mechanisms to provide universal access to healthcare. India has the

opportunity to innovate and create the necessary capacity for universal healthcare;

through an appropriately priced model of insurance that involves private service

providers, partnering with the government. Insurance creates the necessary mechanism

to balance the supply of and demand for healthcare.

6. Agriculture: Agriculture is India’s largest sector of employment accounting for nearly 60%

of the working population. Nearly two-thirds of these have little or no access to credit and

barely a fraction have crop insurance. Crop insurance was first introduced in the 1980s

9

by the Government of India, the General Insurance Corporation (GIC) was the first

company tasked with the implementation of the concept. In 2003, the Agriculture

Insurance Company was given the responsibility of implementing the concept of

agricultural insurance. In the years since the expansion of crop insurance, this

government-led initiative has led to the coverage of nearly 10 million hectares and over

eight million farmers. The government’s initiative has managed to cover only 180 million

farmers in ten years; reflects the variance between need and capacity. Crop insurance

coverage is largely limited to those who have access to bank credit. India has a total

cropped area of land of 193 million hectares, nearly half of which is rain-fed and

dependent on the vagaries of the weather. In 2011-2012, total coverage of crop

insurance was barely 10 million hectares. The expansion of insurance will not only enable

innovation, but also bring substantial extension of advisory services to enable farmers to

improve yield by shifting to demand-led cropping patterns. These forward and backward

linkages in methods of cultivation, in the choice of timing and selection of the types of

crops along with the introduction of new technology will help farmers align their output to

market demands – particularly in price sensitive produce; such as spices and horticulture

where the risks are relatively higher.

Challenges

1. Financial Inclusion: World Bank studies rank India poorly on many indices of financial

inclusion. A well developed financial system naturally results in a higher level of financial

inclusion. Access to banking, availability of credit, affordability and access to insurance

are basic amenities for all citizens. The persistence of poor financial inclusion results in

lower growth, but also promulgates inequality. A study commissioned by the United

Nations Development Program (UNDP) titled “Building Security for the Poor - Potential and

Prospects for Micro insurance in India” states that 90% of the Indian population (i.e.

approximately 950 million people) in India are not covered by insurance.

2. Imperatives to manage under insurance: A recent global report by Lloyd’s of London

shows that there is a total shortfall of US$ 168 billion across the 17 severely underinsured

countries and in India alone, there is an annualised shortfall of US$ 20 billion in insurance.

In 5 of the 17 severely underinsured countries, the average uninsured loss for major

catastrophes is at least 80%. The average uninsured cost of a catastrophe is US$ 1.96

billion in India. Data shows that uninsured losses incurred by both government and the

private sector, reduces by 13% for every 1% rise in insurance penetration.

The independent study by the Centre for Economics and Business Research (CEBR)

commissioned for Lloyd’s highlights; how under-prepared many high growth countries are

to face natural disasters. In 5 of the 17 severely underinsured countries, the average

uninsured loss for major catastrophes was at least 80%. The average uninsured cost of a

catastrophe was US$18.91 billion in China, US$ 1.96 billion in India. It is significant to note

that uninsured losses, both for governments and the private sector, reduce by 13% for

every 1% rise in insurance penetration.

The study raises the question, whether high growth countries like China, India and Brazil

are ignoring the risk of rising costs for natural disasters as they grow and create wealth

and develop supply chains and become increasingly interconnected.

The study concludes, that businesses should establish, risk management as a priority area

of focus, governments need to invest in protecting and preparing for calamities, and

insurers need to take steps to better understand risks in high-growth economies and

develop relevant products.

10

Opportunities

1. Demographic benefits and a growing middle class segment: India has several factors

that it can leverage and convert to opportunities. Every year, 11 million students

graduate and join the Indian workforce; by 2015 this number is likely to touch 15 million.

The size of the Indian middle class segment is variously estimated at around 150 million

households; with incomes ranging from Rs 90,000 to Rs 500,000. India has perhaps one of

the highest savings rate globally, nearly 41% of financial savings find their way into bank

deposits and 26% into tax-incentivised life insurance schemes. This bankable class needs

a choice of long-term instruments to preserve their earnings. This group will have a

formidable impact on the demand for insurance – both life and non Life.

2. Deepening of the financial markets: developing new long term savings instruments - India

needs to create a source of long term debt to fund and manage its expenditure.

Currently the Central and State governments together spend over Rs 5 trillion or roughly

US$ 100 billion, on social sector programs. Long term funding is required to finance

governments social programmes, infrastructure as well as for the expansion of the

industrial productivity - which require efficient channelling of savings. India needs to build

an adept financial system to accumulate and allocate long term savings efficiently – one

of the critical requirements is developing the corporate bond market in India. The

government of India currently borrows nearly Rs 16000 million every calendar day, to fund

its operations. It needs to develop deeper long-term debt markets to even out costs and

limit volatility in liquidity conditions. It is currently over-dependent on bank deposits. This

typically results in banks borrowing for the short term and then lending long term to the

government. This leads to liquidity hiccups, influences inflation and raises the cost of

borrowings in the country.

A wider and deeper insurance market in India will enable aggregation of long term debt.

This is a good opportunity for the government to develop long term savings instruments –

pension, insurance and hybrids that result in the expansion of the financial sector. It will

also enable the government to dovetail its social intent into economic planning.

In the case of developed countries, pension funds and insurance companies have

contributed and shaped their respective financial systems. In the UK and the US, pension

funds and insurance companies grew very rapidly, as the financial system became more

sophisticated and people cared more about saving for their retirement as they grew

richer. In the UK, pension assets grew from 20 % to 80 % of GDP and insurance company

assets increased from 20 % to 100 % of GDP between 1980 and 2009. At the same time,

pension funds and insurance companies started to invest more in equities and in

corporate bonds instead of government bonds. As a result, huge amounts of stable, long-

term funds were channelled into capital markets. In the UK, these funds drove the

development of the stock market into one of the most liquid and sophisticated financial

centres in the world. In the US, institutional investors not only contributed to the

deepening of equity markets, but were also central to the development of the corporate

bond market.

In India insurance companies have increased their investments in both equities and

corporate bonds but compared to the US and the UK, their participation is limited.

Pension funds barely invest in equities and do not invest in corporate bonds at all.

Much room exists for insurance companies and pension funds to shift asset allocations

from government bonds to equities and corporate bonds.

Keeping in view the long term funding requirements of the infrastructure sector in India,

insurance, provident funds (PFs) and pension companies are best suited for making

investments in corporate bonds. Hence, there is a need to revisit the investment

guidelines of such institutional investors; since the existing mandates of most of these

institutions do not permit major investments in corporate bonds. Prudential requirements

11

need to be balanced with the need for a developed corporate bond market, which

ultimately would be in the interest of all financial market participants.

12

III. Pivotal role reinsurance can play in supporting the Indian insurance sector Definition of reinsurance: In essence, reinsurance is insurance for insurance companies. By

sharing some of their risk with reinsurers, primary insurers are able to offer cover against a

more diverse range of risks and keep prices for consumers at affordable levels. Reinsurance

helps insurers to manage their risks by absorbing some of their losses. Reinsurance stabilises

insurance company results and enables growth and innovation to continue. Due to the large

sums of money that they invest in financial markets, reinsurers also contribute significantly to

the real economy.

Though they were relatively little known in the past, reinsurers are gaining recognition in light

of recent major disasters for the role they play in helping insurers, governments and society as

a whole to deal with today’s risk landscape. Reinsurers essentially have the following

functions:

Risk Transfer Function - Stabilise financial results by smoothing the impact of unexpected

major losses and peak risks

Risk Finance Function - Offer reinsurance as a cost effective substitute for equity or debt,

allowing clients to take advantage of global diversification

Information Function - Support clients in pricing and managing risk, developing new

products and expand their geographical footprint

Reinsurance following liberalisation in India:The mandate to the Authority in respect of

reinsurance lies in the provisions of Section 14 (1) and 14 (2) Sub Section (f) of the IRDA Act,

1999 as well as Sections 34 F, 101 A, 101 B and 101 C of the Insurance Act, 1938.

In addition the Authority has framed regulations pertaining to re insurance by non life insurers

which lay down the ground rules for placing re insurance with the re insurers. Under the

provisions of the Insurance Act, 1938, the General Insurance Corporation of India has been

designated as the “Indian Re insurer” which entitles it to receive 5% from all the direct non life

insurers. The limits have been laid down in consultation with the Reinsurance Advisory

Committee.

The Authority has stipulated that every insurer shall obtain the approval of its Board for its re

insurance program. The regulatory framework provides for the filing of the re insurance

program for the next financial year with the Authority at least 45 days before the

commencement of the said year.

The regulations also require that every insurer should maintain the maximum possible

retention possible retention commensurate with its financial strength and volume of business

– the guiding principles are a) maximum retention within the country b) developing the

adequate capacity c) securing the best possible protection for the re insurance costs

incurred d) simplifying the administration of business.

Current status: According to the Asia Insurance Review January 2014, “Since the privatisation

of the insurance industry in India in 2000, numerous foreign insurers have set up joint

ventures(JV) in India; however no foreign reinsurer has set up a JV or fully-fledged operations

in the country”. With rapid economic growth over the past few years and the country

emerging as the major world power, the time is ripe for a reinsurance hub in the country. The

entry of global reinsurers can further support the underwriting activities of Indian insurers and

encourage more domestic investment in Indian insurers”.

13

Due to existing legislative and regulatory restrictions, currently international reinsurers only

service the Indian market on a cross-border basis.

In depositions made to and mentioned in the 41st Report of the Standing Committee on

Finance 2011-2012 – Fifteenth Lok Sabha (Lower House of Parliament), Ministry of Finance

(Department of Financial Services) on the Insurance Laws (Amendment) Bill, 2008, the IRDA

explained that existing FDI restrictions on the establishment of reinsurance companies in

India, present a commercial barrier to reinsurance groups from operating in India. In their

deposition, the IRDA articulated the fundamental differences between insurance and

reinsurance companies, clarifying that reinsurers generally operate in foreign markets

through branches, with regulatory recognition given to their substantial parent company

balance sheets in their home countries. Accordingly, the regulator explained that the reason

why India has not yet fulfilled its ambition of becoming a reinsurance hub; is because it

would not be commercially viable for a foreign reinsurer to establish a joint venture with an

Indian reinsurance company (whilst branches are not permitted in India and will not be until

the Insurance Laws (Amendment) Bill, 2008 is promulgated). Furthermore, the IRDA

highlighted the need for additional reinsurance capacity in India, noting that the GIC’s

capacity is insufficient to meet the substantial needs of the growing Indian economy. The

establishment of foreign reinsurer branches in India would also increase the reinsurance

capacity accessible to the Indian economy.

The existing legislative set up in India; do not allow foreign reinsurers to set up branches or set

up their market structures - as they have in London or Singapore. Coincidently, there are no

such limitations imposed on 100% foreign ownership of investment banks, asset management

companies or NBFCs in India. In banking the RBI allows foreign banks’ to incorporate wholly-

owned subsidiaries and acquire stakes in local banks, this is in stark contrast to the limitations

imposed in the insurance sector that limits foreign ownership to 26%.

Table 1: FDI cap in the insurance sector – a comparison

Country FDI cap in the insurance sector

(Asia)

India 26%

China 51%

Malaysia 51%

Indonesia 80%

Japan, South Korea, Vietnam, Hong Kong and

Taiwan

100%

As India embarks on building the necessary foundation required for double digit growth and

invests in infrastructure across sectors - it will be critical for Indian businesses and projects to

have access to sophisticated insurance products. This is vital for mitigating risks associated

with large projects, in management of capital and in improving efficiency standards.

A strong insurance industry enables entrepreneurs to take risks and thus fuels innovation. In

order to build the infrastructure to sustain India’s economic growth, investors will need

sophisticated insurance coverage. Reinsurers’ presence in India will not only provide the

14

financial strength to sustain this, but moreover supply intellectual capital, acting as trusted

partners to the local insurance industry, lending support in pricing, product development, risk

mitigation, risk management and claims handling. Besides, it will attract inflows of foreign

insurance and reinsurance capital, expertise and innovations.

Reinsurers are not sources of liquidity and do not cause systemic risks. In fact, the liabilities of

reinsurance companies are much more illiquid than banks’ liabilities and are based on the

occurrence of events that occur completely independently of financial market risks.

Moreover, reinsurance is not sold to the general public, but transacted in a wholesale market

by professionals. The risk profile of insurers is more diversified than that of banks in terms of

breakdown of economic capital for European banks, and insurers and reinsurers provide long

term capital to the economy.

Advantages reinsurance can provide to the Indian insurance sector and consumer

By operating through branches in India, foreign reinsurers would increase their understanding

of the risks to which the Indian economy is exposed, enabling their underwriters to introduce

new and innovative products tailored to serve the needs of Indian clients. This would benefit

the local insurance industry and Indian consumers who would get local access to specialist

coverage.

International reinsurers would also be better positioned to provide Indian clients with greater

access to coverage, relieving the strain on the government and taxpayers following major

losses, caused by natural disasters which India is known to suffer from in the form of

earthquakes, tsunamis, floods and cyclones and which all pose a considerable strain on its

developing infrastructure and economy.

International reinsurers will also be able to actively support the modernisation of the Indian

insurance sector, shifting some of the burden which is currently borne in this area by the

government and the IRDA. Reinsurance requires close co-operation between reinsurers and

the insurance companies to whom they provide coverage. A reinsurance branch in India

will be subject to the same comprehensive underwriting, claims; risk management,

governance, and operational standards under which they operate in their respective home

jurisdictions. The enhanced co-operation that would naturally result from the increased

interface between a reinsurer’s branch and the local insurance sector will enable reinsurers

to share their operational practices with the local industry; international reinsurers will

therefore help raise standards in India.

Finally, the presence of world renowned reinsurance entities in India supporting the

underwriting activities of the Indian insurance industry will encourage domestic investments in

Indian insurers, boosting the sector and improving the capitalisation of Indian insurers.

Benefits global reinsurers could provide to the Indian financial sector

The entry of major international financial services brands in India will firmly demonstrate that

India is committed to sustained economic growth, and open for business with its international

trading partners. Furthermore, as has been the case in so many countries round the globe,

reinsurers will be able to play a fundamental role in developing India into a significant

international financial centre. In the existing international financial centres such as London,

New York, Singapore, the presence of global reinsurers has significantly contributed to the

development of a cluster effect with other insurers and auxiliary services such as brokers,

15

lawyers, accountants and IT service providers establishing operations to service reinsurance

activities.

1. Reinsurers are stable :

A study of the US insurance market over a period of 30 years shows that only 3% of all

insurance insolvencies were caused by the failure of reinsurers

Reinsurers are not sources of liquidity and systemic risks. The liabilities of reinsurance

companies are much more illiquid than banks’ liabilities and are based on the

occurrence of events that are fundamentally independent of financial market risks

Reinsurance is not sold to the general public. It is transacted in a wholesale market by

professionals

2. Risk profile of insurers is more diversified than of banks in terms of breakdown of economic

capital for European banks and insurers

3. Re/insurers provide long-term capital to the economy

Re/insurers are long-term institutional investors as they need to match their liabilities.

Increasingly, re/insurers are investing more in Asia’s infrastructure sector.

An example is re/insurers joining force with other financial institutions and the Asian

Development Bank to launch the ASEAN Infrastructure Fund last year (with equity of

US$ 485million).

4. New risk transfer solutions adopted by other governments

Funding disaster relief - Caribbean Catastrophe Risk Insurance Facility - reinsurance

facility which provides funding for governments’ immediate relief efforts after a

hurricane or an earthquake; payments triggered by the intensity of the event.

Funding disaster relief in Mexico – World Bank Catastrophe Bond Program - Capital

markets instrument which provides liquidity for disaster relief and emergency actions;

payments triggered by intensity of event.

Drought protection for the government of Malawi - payments to the government in

case of extreme drought affecting maize production: payments arranged by the

World Bank.

5. Reinsurance branches - Reinsurance branches afford all the benefits of subsidiaries

without the inherent limitation on capital. Advantages of reinsurer operating as a branch

include:

Access to the global balance sheet of the parent company;

Able to enjoy high level of security;

Benefit from the broad expertise and financial strength of the parent company;

Cost of reinsurance will be lower because of the advantage of global diversification,

additional capacities and more competition;

The parent company is legally responsible for the liabilities of its branch, so little

chance of defaulting on valid claims;

Required to pay local taxes on all India related business it generates;

In addition, under branch operations, foreign reinsurers:

i. Will help develop India into a reinsurance hub.

ii. Will facilitate the development of local capital markets by investing locally (as

well as in overseas).

16

iii. Will attract more Foreign Direct Investment (FDI) inflows from multinational

corporations.

iv. Will still be subject to local regulatory oversight.

v. Can bring in capital (although part of the fund inflows should be allowed to meet

operating expenses of the branch).

vi. Can bring skills to India and train local staff.

vii. Can offer a wide spectrum of specialized services, at lower cost than is generally

possible from comparable local independent operations.

In conclusion, reinsurance has a fundamental role to play in developing insurance

penetration in India and the local insurance industry more widely. Reinsurance helps to

unlock the full potential of insurance as a catalyst for economic growth. A strong insurance

industry enables entrepreneurs to take risks and thus fuels innovation. In order to build the

infrastructure to sustain India’s economic growth, investors will need sophisticated insurance

cover. Reinsurers’ presence in India will not only provide the financial strength to sustain this

but moreover supply intellectual capital, acting as trusted partners to the local insurance

industry, lending support in pricing, product development, risk mitigation, risk management

and claims handling.

17

IV. Framework for developing a reinsurance hub in India The case for emerging reinsurance hubs

The traditional powerhouses for reinsurance of global risks have been centred in global

financial centres such as London, New York, Paris, Zurich, and Munich. The traditional centres

have a concentration of capital, technical expertise and first-world business standards.

Over the last few years new reinsurance hubs have developed in Singapore that is focussed

on the Asian markets and of late Dubai is developing itself as a reinsurance hub for the MENA

region.

This raises the question of what do these emerging reinsurance hubs have to offer; and why

should India develop itself as a regional reinsurance hub?

The emerging reinsurance hubs offer a number of advantages2:

Proximity to emerging markets which offer encouraging growth prospects. The ability for

international reinsurers to have a business presence close to these new markets will allow

reinsurers to understand the local markets better and build local knowledge regarding

the underlying risks.

Enhancing customer service by having local offices, operating in local time zones.

Developing regional skills that are targeted at the emerging markets through regional

staff who deal with local markets on a day to day basis.

Promoting the development of localised wordings that are fit for purpose in the local

context. This will avoid the all too common phenomenon of international wordings being

used to underwrite local business without being adapted to fit the local context.

A business-friendly approach within a sophisticated regulatory operating environment.

The frameworks created by Singapore and the Dubai International Financial Centre

(DIFC) are world-class, and are backed up by sophisticated regulators and judicial /

arbitration frameworks.

The ability to streamline and enhance the distribution process through interaction and

continuing development of local brokers and intermediaries.

It is clear from the pattern emerging from hubs such as Dubai and Singapore, that the hubs

are not replacing the established centres. Rather, they are serving to extend the global

reach of the market players based in those hubs, India will definitely benefit by developing

itself as regional hub. Although most of the entities established in the new hubs are still

managed from London, Zurich etc., and are reliant on technical support from those centres.

However, increasingly one can expect to see regional management centres being

developed and strengthened in these hubs as businesses grow.

The significance of these regional reinsurance hubs will increase alongside the development

of the emerging markets which they service. In the long run, this will be beneficial for the

growth of a truly global industry.

2Global Reinsurance Intelligence May 2014 : Clyde & Co

18

Framework for developing a reinsurance hub in India

ONE INSURANCE VISION

* GIFT city aspires to cater to India’s large financial services potential by offering global firms

a world-class infrastructure and facilities

Step1: Legislative and administrative changes required

Passage of the Insurance

(Amendment) Bill, 2008

Implement Taxation Framework

Recommendations

Implement robust Dispute Resolution

Mechanisms

Improve social infrastructure to

attract global talent

Step 2: Creation of reinsurance regulatory framework

Policy Framework

Indian reinsurance companies to adopt principles governing licensing, capital

adequacy, risk management and governance as highlighted by the

International Association of Insurance Supervisors

Foreign Reinsurance branches in India

The legal and regulatory framework governing foreign re insurer branches in India should recognize the home state regulation. IAIS framework to govern

prudential regulation aspects of foreign re insurer branches in India to be adopted

Cedent Responsibility model

Legal framework to govern the prudential regulation of foreign re insurer branches should focus on the ability of the ceding

insurer to demonstrate that it understands and can manage its reinsurance cedant

risks

Step 3: Creating the right ecosystem for the primary insurance market

One Insurance Vision

Need for Government / regulatory support for ONE

Insurance Vision

Regulator as a facilitator

The regulator to operate a robust performance

framework

Insurance Cluster

Identifying / creating a geographic location with a concentration of insurance

service providers.

Step 4: Developing an International reinsurance hub in India under International Financial Services Centre (IFSC) route of SEZ (GIFT)*

Implement broad recommendations on IFSC rules

Move towards fuller capital account convertibility (CAC)

19

Developing a reinsurance hub in India will require four major steps.

Step 1: Legislative and administrative changes required

a) Passage of the Insurance (Amendment) Bill, 2008

The passage of the Insurance (Amendment) Bill, 2008 in the Parliament would allow

establishing reinsurance branches and society of underwriters at Lloyd’s, London and

enable regulatory impetus required for the robust growth of our insurance industry. It is a

precursor for other changes to create a modern and progressive insurance industry in

India.

b) Implement taxation framework recommendations

The taxation framework recommendations included in this paper (Chapter V), both for

direct and indirect taxes will go a long way in creating the level playing field and

providing incentives for the participants to cater to business opportunities.

c) Implement robust dispute resolution mechanisms

The dispute resolution mechanism framework recommendations included in this paper

(Chapter V) will enable in creating the level playing field and opt for state of the art

insurance and reinsurance contractual implementation mechanisms in line with global

insurance practices.

d) Improve social infrastructure to attract global talent

An open door policy approach by the government towards immigration laws,

developing good infrastructure and housing will encourage global experts to work and

live in India.

Step 2: Creation of reinsurance regulatory framework

Internationally, reinsurance is conducted as a business-to-business transaction concluded

freely across borders. The function of reinsurance is to transfer risk from insurers, reducing

volatility by pooling and diversifying risks across diverse classes of business and markets.

Chapter III on the role of re/insurance legislation and regulations and Appendix

23‘International reinsurance hubs’ demonstrates the environment and framework required

that supports these global reinsurance centres. The success of this approach across different

global and regional reinsurance hubs proves that a similar reinsurance regulatory framework

should be created in India.

a) Policy Framework

In considering how to establish a policy framework to govern prudential regulation

aspects of Indian reinsurance firms, attention would be drawn to the Insurance Core

Principles, Standards, Guidance and Assessment Methodology paper produced by the

International Association of Insurance Supervisors (“the IAIS”), and specifically to

Insurance Core Principles (“the ICPs”) 4, 17, 8 and 7, which respectively address the

principles which should govern licensing, capital adequacy, risk management and

governance.

b) Foreign reinsurance branches in India

Once passed, the Insurance Laws Amendment Bill, 2008 would allow foreign reinsurers to

establish branches in India. In considering the framework to govern prudential regulation

3Appendix 2 International reinsurance hubs

20

aspects of foreign reinsurer branches in India, consideration should be given to the

International Association of Insurance Supervisors’ Insurance Core Principles, Standards,

Guidance and Assessment Methodology, 1 October 2011 and specifically Core Principles

13.3 and 25.

In accordance with these principles, which address branch supervision, the legal and

regulatory framework governing foreign reinsurer branches in India should recognise the

home state regulation that those reinsurers are subject to (as opposed to focusing on the

direct prudential supervision of foreign reinsurer branches in India).

This principle is particularly pertinent in considering the application of collateral

requirements for foreign branches. In supervising foreign reinsurance branches, regulators

already have the power to impose direct control over the purchase of reinsurance by

cedants.

c) Cedant responsibility model

As set out in the IAIS Core Principles the legal framework to govern the prudential

regulation of foreign reinsurer branches should focus on the ability of the ceding insurer to

demonstrate that it understands and can manage its reinsurance cedant risks and

gaining comfort around the regulatory controls in place over reinsurer branches, as

opposed to imposing onerous collateral requirements on foreign reinsurance branches.

This so called responsibility model is at the heart of the EU’s forthcoming Solvency II

directive.

Reinsurance is used to disperse risks around the world, instead of maximising risk retention

within a country. Diversification of risk is the fundamental function through which

reinsurers create value, ultimately providing efficient and effective cedant protection.

This is achieved by writing a mixture of business that is exposed to different, and not

necessarily directly connected, risk factors. This can arise from different lines of business,

but also from different geographical locations. A wise reinsurance programme can

increase an insurer’s financial standing; whereas counterproductive regulatory restrictions

on the reinsurance program can produce financial instability.

An open reinsurance market is an important factor in making insurance markets more

competitive, providing price and product advantages to consumers and creating

opportunities for diversification of risk so that ceding insurers do not end up with

reinsurance recoverable concentrations from a small number of reinsurers.

The IAIS ICP 13 sets out principles for the indirect supervision of reinsurance and is often

referred to as the “cedant responsibility model”. Under this Core Principle, instead of

imposing retention limits on insurance, the regulator focuses its attention on ensuring that

the ceding insurer has adopted a prudent approach to the purchase of reinsurance and

to the management of risk associated with purchasing reinsurance.

According to this model the choice of reinsurance cover should be a commercial

decision made by management within the overall reinsurance strategy of the ceding

insurer. In other words, the cedant should be left to judge whether the risk profile –

including the experience, expertise and solvency position – of all the reinsurers to which it

cedes is acceptable and in line with its operating strategy.

21

The regulatory concerns on Fronting4 can be better managed through an effective

assessment of the annual reinsurance programme submitted by each insurer. In case of

an insurer not adhering to the general approach on avoiding fronting, the regulator can

always penalise the insurance with lower credit on solvency.

Step 3: Creating the right ecosystem for the Insurance Market

One Insurance Vision

Please refer to Appendix 1 for more information on the One Insurance Vision paper.

Regulator as a facilitator

An effective and dynamic regulator is a ne of the important constituents for a robust

financial ecosystem, as emphasised in this paper. The IRDA should ideally be responsible to

undertake oversight over the overall risk and performance management of the Indian

re/insurance market, as well as work to maintain and develop the attractiveness of the

market for capital providers, distributors and customers.

The regulator should operate under a robust performance framework and have responsibility

of the following:

1. Market reputation and market ratings;

2. Policyholder protection;

3. Setting the risk-based capital level that each insurer must provide, to support its proposed

underwriting along with a solvency regime on par with international standards;

4. A performance management framework focused on applying high standards and

maintaining high underwriting discipline across the underwriting cycle;

5. Working with Insurers to improve their performance and intervening directly if stronger

action is needed;

6. Managing financial and regulatory reporting;

7. Ensuring contract certainty falls under the responsibility of the insurers and is addressed at

the time the risks are underwritten;

8. Reserving of claims subject to independent audits

Finally, the regulator should not get involved in the day to day business decisions of the

market participants, and it should not seek to influence the individual underwriting decisions,

including product and pricing decisions.

Insurance Cluster

Clusters and competitive advantage

Clusters are geographic concentrations of interconnected companies, specialised suppliers,

service providers, firms in related industries and associated institutions in particular fields that

compete but and cooperate with each other. More importantly, the presence of a cluster

not only increases the demand for specialised inputs but also increases their supply. When

cluster exist, the availability of specialised personnel, services and components, and the

4A procedure in which a primary insurer acts as the insurer of record by issuing a policy, but then passes

the entire risk to a reinsurer in exchange for a commission

22

number of entities creating them usually exceeds – the concentration of both talent and

firms available at other locations: resulting in a distinct benefit, despite the greater

competition.

Clusters affect competition in three broad ways: by increasing the productivity of constituent

firms; by increasing their capacity for innovation and thus for productivity growth; and by

stimulating new business formation that supports innovation and expands the cluster.

Clusters are a driving force in increasing exports and magnets for attracting foreign

investments.

Mumbai – financial centre: Mumbai is the financial capital of India and has a unique cluster

of insurers, reinsurers (GIC and other representative offices), insurance and reinsurance

brokers, law firms, professional services and other supporting institutions.

Step 4: Developing an international reinsurance hub in India under International Financial

Services Centre (IFSC) route of SEZ

a) Implement broad Recommendations on IFSC Rules

The reinsurance hub would follow the overall structure/features of the proposed IFSC

in areas such as taxation policy, legislative framework, regulatory mechanism and

safeguarding measures against money laundering.

Specific sectors like insurance would be given priority, to support offshore insurance,

reinsurance and captive Insurance activities.

While regulations are being contemplated by the Government of India at a nationwide

level for various financial services sectors including insurance and reinsurance, Gujarat

International Finance Tec-city (GIFT)5 is being developed at Gandhinagar with state-of-

the-art infrastructure designed to host an IFSC, which will promote inter-alia insurance

and reinsurance development.

b) Move towards fuller capital account convertibility (CAC)

In simple language CAC allows anyone to freely move from local currency to foreign

currency and back. The current account convertibility, on the other hand, allows free

inflows and outflows for all purposes other than for capital purposes such as investments

and loans.

In India, the Tarapore6 committee laid down a three-year road-map ending 1999-2000 for

CAC. It was cautioned that this time-frame could be speeded up or delayed depending

on the success achieved in establishing certain pre-conditions. These were primarily fiscal

policy consolidation, strengthening of the financial system and a low rate of inflation.

The move toward full capital account convertibility would help India in its quest for a truly

international reinsurance hub.

5GIFT city aspires to cater to India’s large financial services potential by offering global firms a world-class

infrastructure and facilities 6Reserve Bank of India Committee on Fuller Capital Account Convertibility (CAC), chaired by Mr. S.S. Tarapore.

23

V. Key elements: Regulations – Taxation – Dispute Resolution

A. Recommendations for changes to key legislation and regulations

To bring India’s low insurance penetration and density to match global standards and for a

sustained and credible insurance delivery, India requires a cutting edge, transparent and

progressive insurance framework and a global reinsurance platform in India.

Currently, there are myriads of laws (primary legislation) in India, which impinge on the

insurance sector in India and which involve a plethora of central government ministries,

departments and regulators. A more effective system would be for with all policymakers and

regulators to work in collaboration with each other and create - one primary level insurance

legislation mechanism.

It is equally important that the framework to govern prudential regulation should not only

address primary legislation, but that the insurance regulator (IRDA) should be conferred with

powers to draft and implement the same. Setting down detailed requirements in the primary

legislation restricts the ability to modify regulations quickly and effectively. In contrast,

granting the IRDA the authority to set and modify the prudential regulatory framework would

enable it to amend the requirements based on the changing circumstances: this is an

essential mechanism for a dynamic supervisory environment.

1. Some Legislative reform measures (illustrative but not exhaustive)

i. International reinsurance hub in India – The current legislative set up does not allow

the foreign insurers with the ability to set up their branch office operations, including

Lloyd’s of London to set up their market structure much in the same way available in

London / Singapore.

The Insurance Amendment Bill, 2008 goes some way to address this. Therefore, its

immediate parliamentary approval is critical.

It should be followed by wide ranging reforms as elaborated in the IMC paper, “An

Agenda for Indian Insurance Industry – ONE Insurance Vision with Global

Benchmarks”, as highlighted in the Appendix 1.

ii. The current regulatory approach consists of stringent control over all aspects related

to the management of distribution, including arrangements for remuneration within

the limits of section 40A of Insurance Act19387. An alternate approach could be to

consider relaxing the management of distribution expenses, with continued

compliance to overall expenses of management as prescribed in Rule 17D of

Insurance Rules 1939. This would allow greater flexibility for insurers to manage their

costs, to derive optimal value from the distribution infrastructure and therefore could

result in enhanced productivity.

iii. Removing service tax from all “personal lines” policies, and improving tax regimes in

line with other global markets, such as Singapore.

740A. Limitation of expenditure on commission

24

2. Some government reform measures (illustrative but not exhaustive)

i. An enabling government support and regulatory process has a great promise in the

area of Role of Insurance in Disaster Risk Financing in India. A list of compulsory

insurance covers requires Regulatory backing and Government support, to lower the

gaps between the economic and insurance losses in the wake of ever increasing

disasters – both manmade and natural.

ii. The successful functioning of any sector depends on effective grievance redressal

mechanism and there are disruptive thoughts available to re calibrate some of the

insurance laws and regulatory rules. Along with the above, Alternative Dispute

Resolution mechanisms are required, in line with best international practices.

3. Some regulatory reform measures (illustrative but not exhaustive)

i. The bedrock for a modern and global platform remains contract certainty suited to

India; and to create better trust in the system. The Regulatory regime has to partake

of minimum of regulations with maximum supervision. A gradual shift to prudential

regulations than a prescriptive management is the first requisite. A similar shift from the

rules based regulatory frame work to that of principles based approach that has

minimalist and focused interventions which draws robust market response and

compliance results.

ii. Since the agenda is disruptive, deep and development oriented, the framework

requires, at the policy level, a combination of regulations as well as self regulations

(through Self Regulatory Bodies) - both of which are required to be prudent,

proportionate and pragmatic. Consistency and continuity of regulations is equally an

important key.

iii. Risk based capital requirements for Insurers and the solvency on par with Solvency II

standards and early public listing of all insurers.

B. Taxation framework

A consistent and simple regulatory and tax environment is essential for developing a modern

insurance set up, and also for setting up an international reinsurance hub in the country. In

achieving this, clear and stable regimes are a must in order to build up confidence to attract

foreign firms.

Reinsurance is a price-sensitive sector, which means very low interest rates make it difficult for

reinsurance companies to make money (this is not the case however for reinsurance

brokers). The UK sector has benefited from the Government’s setting of competitive tax rates

as well as its involvement in G20 discussions on affiliated reinsurance premiums. However, the

clarity and stability of taxation regime is more important than the rates set. Although the

cases of retrospective tax in India have been few in number, the possibility of it has removed

the certainty over rates, reducing market confidence.

25

There have been many cases of disjointed efforts from the revenue authorities to look at the

insurance sector with their perspectives setting aside the larger One Insurance Vision8.

Direct Tax Issues

In the case of insurance business, the complexities involved in the computation of total

income get compounded as a result of the long term nature of the transactions, which may

sometimes even span decades.

The Income tax Act, 1961 (‘the Act’) recognizes the said peculiarity of insurance business

and therefore contains special provisions for computation of income of insurance business.

Section 44 of the Act deals with the computation of income from insurance business and

provides that income from insurance business is to be computed in accordance with the

rules contained in the First Schedule to the Act. The special provisions override the general

provisions applicable to the computation of income in the case of other business.

Further, the Act contains separate provisions for computation of income in the case of Life

Insurance and Non-Life insurance businesses.

Basis of taxation of non-life insurance business

Rule 5 of the First Schedule deals with the computation of taxable income from non-life

insurance business. As per the said rule, taxable income of non-life insurance business is to

be computed as the profit before tax and appropriations as computed in accordance with

the principles laid down in the Insurance Act. The same is subject to the following

adjustments:

a. any expenditure or allowance (including provision for any tax, dividend, reserve or any

other provision as may be prescribed) which is not deductible in accordance with the

normal provisions for computing profit of business, to be added back;

b. gain or loss on realisation of investments to be added or deducted as the case may be, if

not already considered in the computation of profit;

c. provision for diminution in the value of investment to be added back;

d. prescribed amount carried over to a reserve for unexpired risks to be allowed as a

deduction.

Broadly, the issues involved in the computation of income of non-life insurers are as under:

1. Insurers Provision charged to Revenue accounts to meet Statutory and Regulatory

prescriptions aimed to protect policyholder interests

Considering the particular nature of the Insurance industry, the taxation law adequately

recognizes that the normal principles of computation of taxable income cannot be

applied to insurance companies. IRDA (preparation of financial statements and

auditors’ report of insurance companies) Regulations, 2002 mandates every non-life

insurance company to follow regulations prescribed to provide for:

Outstanding claims including provisions determined actuarially for claims incurred

but not reported on the date of the balance sheet;

8Appendix 1 One Insurance vision

26

To create a reserve for unexpired risks representing that part of premium written that

is attributable to subsequent accounting periods etc. that is prescribed by Insurance

Act, 1938; including premium deficiency, if any.

The implication is that the profit before taxes and appropriations as disclosed in the final

accounts prepared under IRDA regulations shall be the basis for the tax computations.

In recent instances, revenue authorities have disallowed reserves for outstanding claims

as well as premiums that are provided as per Section 64V(ii) of Insurance Act,

Accounting principles for preparation of financial statements (Schedule B part I) of IRDA

(Auditor’s report) Regulations 2002 and Rule 6E of Income tax Rules,1962 (‘the Rules’).

There are various court judgments which state that the ITO has no power to make

additions to the profits as disclosed in the annual accounts, except to the extent

permitted by Rule 5(a) of the First Schedule to the Act. This would mean that the

revenue authorities are required to accept the declared profits before taxes as shown in

the profit and loss account as final. The revenue authorities have re-opened the issue

despite various judicial rulings in favour of non-life insurance companies.

The reserve for unexpired risks is required to be created in respect of the amount

representing that part of the premium which is attributable to and to be allocated to

succeeding accounting periods, but shall not be less than the amount required under

section 64V(1)(ii)(b) of the Insurance Act, 1938.

Rule 6E of the Rules prescribes the limits for amounts that can be carried to a reserve for

unexpired risks - 50% of net premium in case of fire or miscellaneous insurance business,

100% of net premium in case of marine insurance business and 100% of net premium

where insurance business relates to fire insurance or engineering insurance and which

provides insurance for terrorism risks.

(IBNR & IBNER) Incurred but not reported and incurred but not enough reported

provisions are created towards outstanding claims to ensure that sufficient funds are

available to meet the dues of policyholders in future.

During the course of assessment of general insurance companies, the Income tax

department has been seeking to deny the deduction for such provisions for outstanding

claims and reserves for unexpired risks, particularly in computation of book profits under

section 115JB of the Act considering the same as contingent liability.

In view of the above, specific clarifications need to be issued by CBDT to ensure the

following:

Provisions for outstanding claims and reserve for unexpired risks made in accordance

with IRDA regulations/orders should not be added back to the computation of

income, both under the normal computation provisions as well as in the

computation of book profits under section 115JB of the Act.

It should further be noted that Rule 6E of the Rules prescribes that the amounts of

reserve for unexpired risks which are disallowed in accordance with the said Rule

should not be subject to tax again in the subsequent year in which the reserve is

written back, as this amounts to double taxation of the same income.

27

2. Gain/Loss on realisation of investments

Taxation of general insurance companies is governed by section 44 of the Act read with

Rule 5(b) of the First Schedule to the Act. Capital gains earned by General Insurance

Companies were chargeable to tax till 1988 and thereafter exemption was granted for

the industry by deleting Rule 5(b) of First Schedule to the Act. This was done to enable

insurance companies to play a more active role in capital markets for the benefit of

policy holders.

Subsequently, Finance Act 2004 inserted section 10(38) and section 111A to provide

exemption/preferential rate of taxation to all investors, on capital gains earned from the

transfer of listed securities. Finance Act 2010 taxes all realized gains by reinserting Rule

5(b) in the First Schedule.

The amendment reverses the exemption enjoyed by insurance companies in respect of

capital gains since 1988. Further, the general insurance industry is placed at a singularly

disadvantaged position as compared to any other sector which enjoys the benefit

under sections 10(38) and 111A of the Act. General insurance companies are paying

Securities Transaction Tax (STT) on all transactions of sale of securities. By virtue of the

amendment to the First Schedule by Finance Act 2010, all such gains on the sale of

investments are taxable as business income. In view thereof, the benefit of indexation

which is available in the computation of capital gains as well as the benefit of

exemption available under section 10(38) of the Act is denied to general insurance

companies.

Considering the key role played by the sector it is important that the general insurance

industry be allowed to operate on a ’level-playing field’ and treated at par with the

other corporates in the country with respect to taxation of capital gains. This can be

achieved by deleting clause (b) of Rule 5 of the First Schedule to the Act. Accordingly,

the exemption in respect of long term capital gains provided by section 10(38) of the

Act and the applicability of concessional rates as provided in section 111A of the Act

would be restored.

These measures aimed at restoring level playing field for non-life insurance companies

would enable building up a sustainable non-life insurance industry in the country.

Table 2: Tax treatment of insurance companies in other jurisdictions

Singapore

In a recent case, Singapore's Court of Appeal has issued a landmark ruling on the

income tax treatment of investment gains made by insurance companies. In the first such

case heard here, the ruling of the island state's highest court makes clear that gains from

the sale of assets held by regulated insurance companies in insurance funds mandated

by the Insurance Act are not automatically considered taxable income.

To ascertain whether investment gains are taxable, the reason for which the assets are

held needs to be first determined. If the assets are held for the purposes of trade, the

gains would likely be considered taxable income; if they are held for the long-term

strategic interests of the business, then the assets would be considered capital - and the

gains not taxable.

The Court of Appeal released its judgment grounds recently over a case brought by the

Comptroller of Income Tax (CIT) which had attempted to tax the nearly S$100 million

(US$78.9 million) an insurer made from selling certain shares. The CIT's case had earlier

28

been rejected by the Income Tax Board of Review, and then the High Court.

The CIT argued that the shares were bought using the proceeds of insurance premiums

linked to the insurer's business. So the gains were part of the company's income, which is

taxable. The insurer, represented by the legal firm, Wong Partnership, argued that it held

the shares as part of its corporate strategy and sold them only due to a takeover and not

to make a profit to fund its business.

The Court of Appeal decided that the shares were actually "structural" assets, and any

appreciation should be treated as capital gains, which are not taxable under the

Income Tax Act. The key question was whether the gains were driven by profit-making.

The Court made it clear that this was a question of fact to be decided based on the

circumstances of each case. In this case, the court decided profit was not the motive. It

noted that the insurer did not acquire the shares with the intention to trade in them.

The Singapore-registered firm, part of a group of companies, carried on the business of a

general insurer in Singapore and was registered under the Insurance Act until December

2009. It had used its investment funds to buy shares in the group. In 2001-2002, as part of a

takeover of the group by a third party, the insurer sold all of its group shares to the new

company. From the sales, the firm made a gain of S$98,633,380. The shares had been

held for up to 30 years, in line with the firm's plan to hold them indefinitely as part of its

corporate strategy.

It is understood that the Court of Appeal ruling saved the insurance company more than

S$20 million in tax. The company cannot be identified under income tax laws in

Singapore.

According to Wong Partnership (Singaporean law firm) “In particular, it is significant that the

Court of Appeal has determined that there is no invariable rule which taxes the gains

realized by an insurance company upon the sale of an asset. The inquiry as to whether such

gains amount to income or capital ultimately depends on an assessment of the totality of the

evidence”.

3. Applicability of Minimum Alternative Tax (MAT) to the Non-life industry

Objective and purpose of MAT provisions

With effect from April 1, 2013 (Finance Act 2012), MAT provisions under section 115JB of

the Act have also been made applicable to general insurance companies.

It is pertinent to note that the original purpose of introducing MAT provisions was to tax

companies that were disclosing book profits and distributing dividends but was not

paying income-tax on account of dubious tax planning.

General insurance is a highly regulated industry and general insurance companies are

mandated to prepare their accounts in accordance with IRDA Regulations. Thus, the

profits disclosed in the financials of general insurance companies are profits computed in

accordance with the IRDA regulations that are taxed as normal rates. MAT provisions

were not meant to be applied to such highly regulated companies.

The ITAT has also supported the industry view that provisions of Section 115JB of the Act

are not applicable in the case of insurance companies as they are not required to

prepare their accounts as per Schedule VI of the Companies Act 1956.

Further, given the basic structure of the provisions of the Act wherein section 44 overrides

all other provisions of the Act as regards computation of income, it should be clarified

that section 44 of the Act overrides section 115JB of the Act. However, the Revenue

29

Department is holding the view that section 115JB of the Act is applicable to the

insurance sector

MAT provisions and special features of insurance industry

However, if the above requests are not accepted, it needs to be ensured that at least

the basic features of the insurance industry are not completely ignored.

For instance, section 115JB of the Act, inter alia, mandates adding back of all

unascertained liabilities. In the general insurance industry, the liability towards claims,

especially in the case of liability lines of business, motor third party related claims etc.,

the crystallization of the exact claim amounts happen over a longer tenure (over a

period of 5 to 7 years)

If the peculiar features of the insurance industry are completely ignored, then during

the course of assessment proceedings, any provisioning made could be construed as

an unascertained liability leading to add-back and tax outgo. In some cases the tax

authorities have treated UPR etc. as unascertained liability and added back the same.

In view of the above, liability towards outstanding claims and unexpired risk should not be

considered as unascertained liability required to be added back to the profit and

suitable clarifications/instructions should be issued by the CBDT in this regard.

Considering the original intent of introducing MAT provisions was to target the zero tax

companies indulging in dubious tax planning activities, it should be specifically legislated

that MAT provisions do not apply to highly regulated companies like non-life insurance

companies. Such provision [section 115JB (5A) of the Act] has already been created for

life insurance companies. Similar exception needs to be carved out in section 115JB of

the Act for general insurance companies as well.

4. Deduction in respect of insurance premium

Like Life insurance sector, it would be a progressive idea that a separate deduction

toward premium paid under personal accident policy, home insurance & travel be

allowed to the policy holders under a separate section to the extent of Rs. 50,000/-

5. TDS on interest component included in Motor Accidents Claim Tribunal (MACT)

Compensation Awards to victims of Motor Accidents

MACT awards to victims of motor vehicle accidents include compensation and interest

thereon. Generally, most of the victims are poor .and are unlikely to have taxable

income; may not even have bank accounts. Interest component has been held by

Delhi High Court as a capital receipt in the hands of the recipient.

As per Section 194A of the Act, tax is deductible at source if the interest amount on

MACT awards exceeds Rs. 50,000 in the aggregate during a financial year.

Non-life insurance companies accordingly deduct TDS on the interest component. The

Delhi High Court (Order No. MACA 441/2012 dated 12.04.2013) has now ordered

insurance companies to refund such tax deducted to the claimants.

Section 194A of the Act needs to be amended to exclude interest component on MACT

awards from the application of TDS. Pending such an amendment, appropriate

30

instructions could be issued by the CBDT providing relief to both, claimants of

compensation as well as non-life insurance companies.

6. Disallowance of Notional Expenditure in respect of exempt income computed on the

total investment portfolio of non life insurance companies

As per Section 14A of the Act read with Rule 8D of the Rules, no deduction is allowed for

expenses incurred in respect of any income which is exempt from tax. Further, if the

Revenue Authorities are not satisfied with the correctness of the claim of the assesses,

they can compute the quantum of disallowance of notional expenditure at 0.5% of the

average value of the investment portfolio. In the context of an insurance company this

discretionary provision and the disallowance of notional expenditure is quite significant.

The investments of non-life insurance companies generating exempt income are in

respect of investments made in tax free bonds issued by entities in the infrastructure

sector. The exempt income would not exceed even 10% of total investment income of

the insurance companies. Also, the expenses incurred to earn such exempt income

would be very negligible as these mostly pertain to custodial charges, stock holding

expenses, investment expenses, transfer fees etc.

The income tax authorities disallow notional expenditure calculated at 0.5% percentage

of the total investment portfolio of the individual non-life insurance companies (on an

ad-hoc basis).This disallowance becomes substantial and exceeds the actual

expenditure by a very large margin.

Courts have held that computation of income of non-life Insurance companies is

covered by the provisions of section 44 of the Act read with Rule 5 of the First Schedule

and section 14A of the Act cannot be applied for calculating allowable expenditure.

However, it would be helpful if the CBDT issues a specific clarification in this regard.

7. Basis of taxation of reinsurance business

The tax laws pertaining to insurance business have not kept pace with the regulatory

developments. There are no separate provisions in the Act for the taxation of

reinsurance business.

Rule 6 of the First Schedule to the Act prescribes the manner of computation of profits

of insurance business in the case of non resident persons. As per the said Rule, in the

absence of more reliable data, the profits of the foreign branches carrying on

insurance business in India will be considered as that proportion of their world income

which their premium income derived in India bears to their total premium income.

Further, the world income in respect of life insurance business is to be computed in

accordance with Rule 5 of the First Schedule to the Act, i.e. in the manner in which the

income of Indian life insurance companies is computed. However, nothing has been

provided in connection with the computation of world income of non-life insurance

companies.

Considering the recent developments in the reinsurance sector and the peculiarity of

the global reinsurance business, in the absence of specific provisions for the taxation of

reinsurance there would be ambiguities in the allocation of expenses. It would

therefore be difficult to compute the world income of reinsurance business thereby

31

giving rise to litigation. An amendment in the said Rule is therefore necessary to

provide that in case of non-life insurance industry, the world income computed as per

the laws of the respective countries should be accepted for the purpose of Rule 6 and

no further adjustments should be made to the same under the Act.

In view of the above, the following amendments in law may be requested:

i. Separate provisions for computation of profit from reinsurance business.

ii. Presumptive taxation provisions similar to current provisions for shipping business

(7.5%), aircraft business (5%) and civil construction, turnkey power projects (10%) i.e.

taxation of gross premium received at specified legitimate rate considering the

industry margin of reinsurance business. Credible industry study is required to

determine the appropriate profit percentage.

iii. Proportion of worldwide profit before tax should be accepted on the basis of world

income computed in the respective countries, which will recognise claims/liabilities

instead of computing world income in the manner laid down in the Act.

8. No withholding tax on reinsurance premium

Reinsurance is an arrangement where an insurance company having accepted a risk,

cedes (passes on) a part or whole of such risk to another insurance company, called

Reinsurer. As a result, the insurance company pays premium to the reinsurer. Of the

industry premium size of Rs. 583.76 billion in 2011-12, a sum of Rs. 40.15 billion (7.52%) is

reinsured with overseas reinsurers. The Indian reinsurer, GIC Re, in protecting its balance

sheet, also adds to the overseas reinsurance remittances. Reinsurance is an important

risk mitigation and risk spreading mechanism for insurance companies. When the

reinsurance premium is paid, it is only a gross receipt and not ‘profit’ to reinsurers, as they

carry the risk transferred to them and would have to honour the claims arising during the

period of risk.

Reinsurance is an alternate capital to the insurance industry. Reinsurance with overseas

reinsurers helps in protecting the capital of the country (in a catastrophic event, it is a

substantial cash inflow that happens into the country and softens the impact for the

economy).

The UN Model Convention specifically exempts reinsurance from deeming accrual of

income notwithstanding the fact that the premium or risk may pertain to the territory of

any particular country. Historically, foreign reinsurers have never been taxed in India for

the reinsurance premium received from the Indian insurance companies.

The income tax authorities are taking the view that the reinsurance premium paid to the

Non-resident Re-insurer (NRRI) is held to be accruing or arising in India and therefore is

chargeable to tax under section 5(2)(b) of the Act. However, the industry contends that

the reinsurance premium payments are not taxable in India as per the Act on the

following counts:

Income is not received in India. All the payments to foreign reinsurance companies

are paid to foreign reinsurance companies outside India and therefore no income

has been received by foreign reinsurers in India.

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Income does not accrue or arise in India and is also not deemed to accrue or arise in

India. The law provides that income can be deemed to accrue or arise in India if the

NRRI has a business connection in India, which includes activities carried out through

a dependent agent. The transaction between the Indian insurer and the foreign

insurer is on a “principal to principal” basis and there is no privity of contract between

policy holder and reinsurers. Also, an insurer is not an agent of the foreign reinsurer

and therefore reinsurers are not entitled to receive part of original premium. The

contract between insurer and reinsurer is a separate contract of insurance, distinct

from the contract between the insurer and the policy holder and therefore the same

does not create any business connection in India

Without prejudice, even if it is assumed that the foreign insurers have any business

connection in India, the reinsurance payment cannot be taxed in India for want of

their business operations being conducted in India. We reiterate that the NRRI

companies do not and cannot carry out their operations in India.

Provisions of Double Taxation Avoidance Agreement (‘DTAA’) relating to payment

made to reinsurers. India has entered into DTAA with various foreign countries and

whereby the business income arising in India can be taxed in India only when the

Non-Resident has a Permanent Establishment (‘PE’) in India. Article 7 of all the DTAAs

that India has entered into with other countries provides that the income arising to a

non-resident enterprise from doing business in India shall not be taxed in India, unless

the non-resident enterprise has a PE (defined in Article 5) in India. According to the

insurance industry, neither the overseas reinsurer by itself nor because of the presence

of a broker in India constitutes a PE in India in the absence of physical presence. In

fact, some of the DTAAs that India has entered into specifically exclude reinsurance

from the definition of PE (e.g. India – Swiss Confederation, India - Finland, India -

Luxembourg).

Therefore, it is submitted that the intent of the DTAA is to exclude re-insurance

business receipts from the ambit of taxation in the other contracting state and thus,

where a DTAA exists, reinsurance premium is not taxable in India in the hands of the

foreign reinsurance company.

Non applicability of section 40of the Act to General Insurance Companies. Section 40

of the Act deals with disallowance of expenses incurred towards any interest, royalty,

fees for technical services or other sum chargeable under the Act payable outside

India or payable in India to a non-resident not being a company or to a foreign

company, for non deduction of tax at source on the same. As section 44 of the Act

which deals with the computation of income from insurance business overrides the

provisions of section 28 to section 43B of the Act, the provisions of section 40 are not

applicable to general insurance companies.

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Table 3: Two relevant areas to consider – international position on taxation and

impact on the industry

International position with respect to taxation

Under the UN Model Convention, a foreign insurance company is deemed to have a PE in

the other country only if it collects premium or insures a risk through a person other than an

independent agent. Even, so, under the UN Model Convention there is an explicit exclusion

not to cover reinsurance companies with such deeming clause. Though, the OECD Model

Convention does not have a similar clause, the OECD commentary states that the OECD

member countries can insert similar clauses in their tax treaties.

Internationally in countries such as France, Switzerland, UK, USA no income tax is levied on

payment of reinsurance premium to a resident of another country. While DTAAs provide for

taxation of specific payments, reinsurance premium is not one of them and typically

internationally, reinsurance premium is taxable only in case where there is a PE of the

overseas enterprise in that country. Further, in the Indian Context, a Director of Income Tax-

International Taxation, Mumbai, has in 2006 , held that a foreign reinsurer does not have a PE

in India based on the facts in case of Munich Re, Germany on the reinsurance transaction

with Birla Sun Life Insurance.

Industry impact

In the absence of any clarification as to circumstances when the reinsurance premium can

be taxed in India, the tax authorities will persist with their approach of holding the

reinsurance premium paid to the NRRI as accruing or arising in India and therefore as

chargeable to tax under section 5(2) (b) of the Act, resulting in serious financial hardship to

the industry.

This, in turn, will inflate the premium rates to the “end consumers.” Also, this will discourage

foreign reinsurers from investing in the Indian Market and further limit the capacity of the

Indian Insurance Market where insurers will not be able to write risk beyond their retention

capacity or underwrite mega risks. This may have an impact on the economic growth of the

nation as a whole.

In view of the above provisions in the Act, reinsurance premium paid to NRRI is not taxable in

India and no withholding tax is required to be deducted on the same. Specific clarification in

this regard may need to be issued by the CBDT.

9. Direct Taxes Code

Under DTC 2013, insurance/reinsurance premiums payable for covering any risk in India is

deemed to be income accruing in India and would be liable to withholding tax rate at

the rate of 20%.

Income tax authorities have failed to appreciate that when reinsurance premium is

paid, it is only a receipt of premium and not a profit to reinsurers, as they carry the risk

transferred to them and would have to honour the claims arising during the period of

risk.

Further, in the absence of any specific provision for computation of income from

reinsurance business, considerable difficulty arises with regard to the calculation of cost

allocation and thereby computation of taxable profit.

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Following recommendations may be made in respect of reinsurance premium:

Introduction of presumptive taxation provisions for non-residents conducting

business of reinsurance. This should remove the difficulty of calculation of profit

taxable in India i.e. gross premium can be charged at specified rate of tax (DTC

proposes a very high withholding rate at 20%);

Overseas reinsurance premium remittances to be exempted from withholding tax in

accordance with the UN Model Convention and suitable clarifications / instructions

be issued by the CBDT.

10. Branch vs. Joint Venture

Currently, a foreign company is permitted to carry out reinsurance business in India only

through a joint venture with companies registered in India. The foreign holding in such

insurance companies is restricted to 26%, which is proposed to be enhanced to 49%. It is

also proposed to permit foreign insurance companies to set up branches in India.

If reinsurance business is carried out in India through a joint venture

The joint venture company would be considered as a separate legal entity in India. As

there are no separate provision for the computation of income in respect of reinsurance

business, the income of the joint venture company would be required to be computed

in accordance with Rule 5 of the First Schedule to the Act and the said income would

be taxable at the rates applicable to an Indian company, i.e. at 30% plus applicable

surcharge and education cess.

If reinsurance business is carried out in India through a of foreign branch of an insurance

company

According to Rule 6 of the First Schedule to the Act, the profits and gains of foreign

branches in India carrying on any business of insurance, may, in the absence of more

reliable data, be considered to be that proportion of the world income which

corresponds to the proportion that its premium income derived from India bears to its

total premium income.

While Rule 6(2) specifically provides that world income of life insurance business should

be computed in the manner laid down in the Act for the purpose of computation of

profits of insurance business carried out in India, there is no specific provision for the

computation of world income of non-life insurance business. It is therefore not clear as to

whether the world income of non-life insurance business should be computed in the

manner laid down for the computation of income of non-life insurance business carried

out in India, i.e. as per Rule 5 of the First Schedule.

If the Insurance Act is amended to permit the setting up of a foreign branch in India,

then as discussed in paragraph no. 7 above, an amendment may need to be made in

respect of computing the worldwide income of non-life insurance companies.

Further, under DTC 2013 every foreign company is liable to branch profits tax at 15% in

respect of branch profits of a financial year, in addition to income tax. The branch profits

refer to the income attributable, directly or indirectly, to the permanent establishment or

an immovable property situated in India, included in the total income of the foreign

35

company for the financial year, as reduced by the amount of income tax payable on

such attributable income.

To recapitulate, since reinsurance premium does not accrue or arise in India it is therefore not

taxable as per the present Act. However, as per DTC 2013, any insurance premium including

reinsurance premium accrued from or payable by any resident or non resident in respect of

coverage of any risk in India is deemed to accrue or arise in India.

Considering the protection to the overall economy that overseas reinsurance offers, overseas

reinsurance remittances should be exempt from withholding tax in accordance with UN

Model Convention by amending the current Income Tax Act and the DTC 2013.

Indirect Tax issues

1. Service Tax under coinsurance premiums

The coinsurance agreement is executed under the aegis of General Insurance Council

signed at the industry level among all general insurers. The term “Coinsurance” means

the Insured has an option to spread their risk amongst many insurers and allocate shares

to insurers. The general insurance company bearing the largest share of the risk is

called the lead insurer (or leader) while the other insurers sharing the risk are called the

participating co insurers.

The Insured decides the Insurers and it is the Insured’s prerogative to decide who will be

the lead insurer. Though the insured chooses to place business with more than one

insurer on the same risk/policy, he has the benefit of paying the premium, and receiving

the claims from only the lead insurer. In effect in all matters of servicing, service is

rendered only by the Lead Insurer to the Insured.

Insurance Rules pertaining to Section 64VB of Insurance Act also recognizes this

practice. Accordingly, the practice followed across the general insurance industry over

the years is that the leader under coinsurance policy collects 100% service tax from

the insured on the full premium and discharges in entirety the service tax liability to the

government. The co insurer(s) who is not the leader gets his share of coinsurance

premium. The participating co insurers are not involved in any manner in discharge of

service tax liability. This is the industry practice followed by all general insurers from the

day of inception of service tax in 1994 and continues till date.

This stance is support by Service Tax Instruction F. No. 150/1/94-CX. 4 dated 2nd May,

1996 issued by the CBEC (Appendix 8).

Recently, the authorities have demanded levy of service tax amounting Rs.3.62billion

along with interest and penalty on the share of premium collected by a company as a

participating co-insurer for the period 2005-06 to 2009-10 considering the same as

reinsurance premium being liable to service tax and was also given a show cause

notice.

Insurance premiums collected by the insurance company are already liable to service

tax. Payment of service tax again on the distributed coinsurance premium would lead

to dual payment of service tax on the same premium amount.

36

Hence, taxing the same insurance premium in case of reinsurance services without

providing credit on the entire amount and taxing coinsurance services would lead to

taxing twice on the same premium amount. Hence, premium paid in case of

reinsurance business and premium distributed in case of coinsurance business should

not be liable to service tax. Accordingly, the premium amount in case of reinsurance

and coinsurance services should be covered under the negative list of services or

made exempted under the mega exemption notification.

Further, as per the CENVAT Credit Rules, 2004 (‘CCR’), reversal of CENVAT credit is

required in case of provision of exempted output services. Hence with making

reinsurance and coinsurance exempt, simultaneously suitable amendment should be

made in Rule 6 of CCR such that both reinsurance and coinsurance service should

not be considered as exempt service and thereby not requiring reversal of credit.

The said show cause was strongly contested by citing the provisions of law and

documents including the coinsurance agreement under the aegis of General

Insurance Council signed at the industry level among all general insurers clearly stating

that it is the lead insurer who will discharge the full service tax liability to the Govt., with

proof of certificates from general insurance companies confirming in unequivocal terms

their adherence to the codified rule and the industry practice

The Insurance Industry requests that a clarification be issued by CBEC stating that the

Service Tax Instruction F.No.150/1/94-CX. 4 dated 2nd May, 1996 cover all coinsurance

transactions and that the leader continues to pay service tax on behalf of all insurers, as

is the current practice.

Service tax levied on the premium amount collected in case of reinsurance and

coinsurance transactions

General insurance companies provide both taxable and exempt services. Taxable

services included the various insurance covers like asset, motor, fire, marine etc. exempt

service would include Rashtriya Swastha BimaYojana (National insurance health plan),

and other services which are covered under sr. no. 26 of mega exemption notification.

The issue in case of reinsurance services

As a part of insurance business some amount of risk is always ceded to reinsurers. The

insurance company while providing insurance cover to the policy holder pays service

tax on the premiums collected. Further since, most of the reinsurance companies are

located outside India, the insurance companies also pay service tax under reverse

charge mechanism on the premium it pays to the reinsurance companies.

2. Further in some cases the reinsurance is ceded on a portfolio basis rather than on an

individual product basis. In such a situation, the portion of reinsurance ceded does not

differentiate between taxable and exempt service. Hence, service tax in case of

reinsurance service is also paid on services, which are primarily exempt under the mega

exemption notification.

3. Disallowance of CENVAT Credit on reinsurance services: The department seeks to

disallow credit on the ground that reinsurance service is not an input service for

providing output service. Here, it is pertinent to consider the following:

37

The word ‘input service’ is of wide import and includes all service required by an

assesse to provide output services. By a catena of judgments, the Courts have

time and again held that credit of service tax paid on services used in relation to

the business would be available as credit.

Reinsurance is essential for General insurance companies to render insurance

services to insured.

Reinsurance services are not specifically excluded from the definition of the ‘input

services’. Therefore, such reinsurance services would also get qualified under the

definition of ‘input services’, as the circular no.120(a)/2/2010-ST issued by the Tax

Research Unit, Central Board of Excise & Custom clarified that every insurer dealing in

insurance business is required to avail the services of a re-insurer (Appendix 6). It also

clarifies that it is the reinsurer which provides insurance service to the insurance

company. Hence CENVAT credit should be available on reinsurance ceded. It is settled

law that the clarifications of the CBEC are binding on the department officers. They are

used for providing output insurance services by the insurance companies. The industry

strongly recommends that the circular issued by CBEC to be extended and should bind

the service tax officers under the Negative list of service tax regime as well.

Service tax on Health Insurance Schemes

By the Notification No. 5/2012 issued by Ministry of Finance, the health care services by a

clinical establishment, an authorized medical practitioner or paramedics have been

exempted from the whole of the service tax leviable.

The services of preventive health check-up provided by hospitals, clinical establishments

will also be covered under the above exemption. However, when the health insurance

cover is provided covering preventive health check up services, the same is subject to

service tax. The service tax imposition renders the health insurance schemes on

preventive health check-ups incompatible with the health care services in terms of

costs.

The health insurance services should be made a zero rated service and accordingly the

disallowance provisions should also be amended.

Schemes for Social welfare

All the insurance schemes sponsored by Central Government or State Government

mainly for the benefit of below poverty line people, social sectors should be made

exempted from service tax. Presently some schemes of Government like Rashtriya

Swasthaya Bima Yojana (National insurance health plan), Weather Insurance Schemes

under MNAIS & other Schemes which are already mentioned under the negative list of

services are exempt from service tax.

However, some schemes are still subject to service tax for example health & personal

insurance schemes for handicrafts, handloom & weavers under schemes of Ministry of

Textiles. It is essential that similar exemption may be extended to all such schemes.

It is also essential that while calculating the disallowance the undue hardship is not

imposed on the service providers. At present in respect of services provided to Special

38

Economic Zone and services falling under export of services are not required to be

considered for the purpose of calculation of disallowance.

Amendment made in Rule 6 (3D) of the CENVAT credit Rules -Trading in securities

Per amendment in explanation 1 (point d) to Rule 6(3D) of CENVAT credit rules, in case

of trading of securities, value for the purpose of sub rules (3) & (3A), shall be the

difference between the sale price and the purchase price of the securities traded or

one percent of the purchase price of securities traded, whichever is more.

Insurance Companies are making investments in accordance with the prudential norms

and the investment policy under the Regulations prescribed by IRDA. Further, as per

Schedule B to IRDA (Auditor's report) Regulations, 2002 which prescribes the accounting

treatment to be given for different types of investments all investments by insurance

companies in debt securities shall be treated as held to maturity. The investment in

equity shares are generally kept from long term point of view. Hence insurance

companies by virtue of above provisions are not trading in securities. The

redemption/sale in securities is necessitated for the purpose of meeting working capital

needs such as payment of claims liability, reinsurance settlements etc.

By introducing the said explanation, undue hardship is being imposed on insurance

companies to disallow a certain proportion of their investment income while calculating

the proportionate disallowance under the provisions of service tax.

Therefore it is logical that insurance companies be excluded from the applicability of

above provisions.

Served from India Scheme

To accelerate growth in export of services, Directorate General of Foreign Trade

Government of India (“DGFT”) issues Duty Credit Scrip to Indian Service providers who

have free foreign exchange earning of at least Rs 10,00,000 in the preceding financial

year.

Duty Credit scrip may be used for import of any capital goods including spares, office

equipment and professional equipment, office furniture and consumables. Imports shall

relate to any service sector business of applicant.

Utilization of Duty Credit scrip earned shall be permitted for payment of duty in case of

import of only those vehicles, which are in the nature of professional equipment to the

service provider.

Duty Credit scrip should also be allowed to be utilised against payment of service tax

liability.

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C. Dispute resolution

Litigation: An Indian Overview

Effective litigation is a fundamental requirement for a vibrant financial services sector. India

has a developed and codified legal system but litigation in India is slow. There are reportedly

over 32 million cases presently pending before Indian courts, of which the bulk, circa 28

million, are before the lower Courts, circa 4.3 million before the High Courts and circa 67,000

before the Supreme Court. With about 14,576 Judges hearing these cases and virtually no

case management, often a single Judge has to hear 40- 60 cases a day making a speedy

result impossible. Proceedings can, therefore, be prolonged and are expensive given the

significant number of appearances in court.

This is due to a variety of factors, such as lawyers seeking adjournments without reasonable

explanations or rationale, and equally the courts granting them adjournments without much

ado. Furthermore, there are rather long breaks between hearings given the backlog of

cases, during which the judges hearing the matter may retire or may be either transferred or

promoted delaying the process even further. There is seldom a matter in the Indian courts

that is heard from commencement to conclusion by the same presiding judge.

As a result, cases are delayed or left unresolved for years in many instances. For instance,

the National Commission is still hearing matters filed in the year 2000. On an average, if

lawyers of both parties remain committed to a timely resolution, it can still take 4-6 years for a

case to be resolved.

The successful party is entitled to a costs award but, in practice, courts award nominal costs

that bear no relation to the actual costs incurred. Judgments do carry interest at the

discretion of the courts, and usually this is within a range of 8%-14% per annum from the date

upon which the cause of action accrued to the date of payment of a judgments sum.

However in the case between and an insured party and individual; an individual may find it

daunting to initiate action. He may have to wait for nearly a decade for a judgement; whilst

in the meantime the insured has to fund the costs of the litigation. One of the unspoken

strategic defenses, an insurer may have to a claim - is the sheer duration of time it would

take for an insured person/entity to obtain a decision.

Although the Ministry of Law and Justice formulated a National Litigation Policy in 2010 to

address pendency and to reduce average pendency from 15 to 3 years, this well-meaning

initiative is yet to be implemented. The legal system is evidently broken and needs repair.

There can be no real progress towards India becoming a more sophisticated destination for

(re)insurance businesses, as there are inherent limitations in the legal system. This perhaps is

one of the biggest challenges for any foreign investor looking to do business in India. The

ownership to fix the system resides with the insurance, legal and key decision makers in the

country.

Furthermore, the state-owned insurers are in a peculiar position, as it is not easy for them to

settle disputes on a commercial basis without attracting attention of the numerous authorities

such as the Comptroller and Auditor General (CAG), and the Central Vigilance Commission

40

(CVC).

Arbitration & Conciliation

Arbitration is a medium which provides for an effective and expeditious dispute resolution

framework unlike court proceedings which takes number of years in resolving disputes

between the parties. Parties submit themselves to arbitration, as it enables faster resolution of

disputes and leaves very little scope for prolongation of disputes. For this reason it inspires

greater confidence in foreign investors to invest in India and reassures international investors

in the reliability of the Indian legal system to provide an expeditious, cost effective and

flexible dispute resolution mechanism.

Dispute resolution in India is slowly but surely coming of age. Indian companies now

appreciate the benefits of an efficacious and speedy dispute resolution. Due to the backlog

of cases, litigation in India is long drawn out and arduous. Whilst time spent on such delays

has reduced, arbitration has emerged as the preferred alternative mode of resolution for

commercial disputes. The Arbitration and Conciliation Act, 1996 (ACA) contains the law in

respect of arbitration in India. The ACA is based on the UNCITRAL Model Law. The ACA

preserves party autonomy in relation to most aspects of arbitration, such as the freedom to

agree upon the qualification, nationality, and number of arbitrators (provided it is not an

even number), the place of arbitration, law governing the arbitration agreement and the

procedure to be followed by the Tribunal.

Arbitration in India is primarily ad hoc but there is a move for promoting institutional

arbitrations. There are however, frequent complaints by parties that the time, as well as costs

incurred in arbitration does not in the present times render it as an attractive option.

The Indian Council of Arbitration (ICA) and the Delhi Chapter of the London Council of

International Arbitration (LCAI of India)established in 2009 are two of the most prominent

arbitration centres in India. Recently, Indian Merchants’ Chamber has launched the IMC

Suresh Kotak International ADR Centre in Mumbai.

The number of disputes currently being heard at the ICA and the LCIA is relatively a small

number compared to the large number of ad hoc arbitrations which are on going at any

given point of time. An arbitration agreement, as per the ACA, needs to be in writing and

should reflect the intention of the parties to submit their dispute(s) to arbitration. It is not

necessary for an arbitration agreement to be incorporated into an insurance / reinsurance

contract. An arbitration agreement can come into existence if it is contained in a

subsequent exchange of letters etc. so as to provide a record of the agreement.

The Law Commission is in the final stages of finalising a set of recommendations for

amendments to the Arbitration and Conciliation Act, 1996, to strengthen the arbitration

system in India. It is hoped that the newly elected government will introduce these

recommendations in the form of an amendment bill in the parliament.

The IRDA mandates that shareholders of an Indian insurance company should resolve their

disputes by an arbitral tribunal seated in India. In order to attract substantial interest and

investment (which would be a pre-requisite of insurance Industry) from foreign investor, clarity

of the applicable law is of utmost importance. Of late, there have been various regulatory

and legislative changes (including in taxation laws) that have raised question marks on the

scope of such provisions. While ideally one would want to get rid of the ambiguity

41

completely, as an interim measure, akin to the Authority for Advance Ruling in case of

Income Tax issues, there should be similar regulatory windows which may be made available

- so that appropriate prior clarifications can be sought before proceeding in a certain

direction.

There have been debates about establishing commercial courts in India so that a dedicated

tribunal is established to deal with such matters. The commercial courts would be distinct

from the courts dealing with other areas like real estate, administrative law or regulatory

disputes. This model has been successfully implemented in India when it comes to authorities

like TRAI or several regulatory electricity commissions, etc. Dubai has for instance taken an

initiative of setting up specialized tribunals in order to establish themselves as centres of

dispute resolution. Taking guidance from such instances, the Commercial Courts

Amendment Bill, 2009, was introduced in parliament to create special divisions in high courts

to deal exclusively with commercial disputes above a certain threshold value. The Bill has

been passed by the Lower House of Parliament (Lok Sabha) and is pending in the Upper

House of Parliament (Rajya Sabha). The Bill has been drafted in a manner which will ensure

that all such disputes are concluded within a span of a year of filing.

Section 89 of the CPC also embraces the provision for settlement of disputes outside the

court. The Alternative Dispute Resolution (ADR) mechanism as contemplated by Section 89 is

arbitration or conciliation, or judicial settlement including settlement through ‘Lok Adalat’ or

mediation. There are a number of mediation cells, associated with various High Courts but

the consent of the parties is a pre-condition for mediation.

Most arbitration clauses in insurance policies are restricted to resolution of disputes over

quantum; whilst leaving liability related to the disputes beyond its scope. This can also at

times, encourage insurers to reject liability because then an insured would need to resort to a

court or consumer forum - where the time taken for a dispute resolution would be onerous

and lengthy.

Another disturbing trend in the Indian scenario is; the losing party will invariably challenge the

arbitral award. While the scope of challenge is limited, this challenge has to be referred to

the judiciary and has to be determined by the slow moving courts, which can take up much

time to determine the validity of the challenge. This trend of a routine challenge and refusal

to accept an unfavourable award means that arbitrating a dispute ; may become more

time consuming - as parties will first arbitrate and then get relegated to the same tardy

judicial system, which they had initially wished to avoid.

While the endemic delays in the Indian judicial system require a comprehensive overhaul

and repair rather than a “band-aid” approach, some of the ways in which a start could be

made is by;

introducing the pre-scheduling of trials in advance;

a strict refusal for adjournments absent limited (and serious) exceptions;

introducing the system of part-time judges to address the caseload;

disallowing consumer forums to hear matters concerning commercial and financial line

claims; discouraging litigants from raising frivolous claims or defences by awarding of

realistic costs to the winning party and

specialised training of judges in relation to insurance and reinsurance claims.

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Role international law firms can play

Insurance and reinsurance law is a specialised subject meriting a more focussed and

comprehensive expertise. Most sophisticated jurisdictions accordingly, have specialist

lawyers and law firms to support the insurance and reinsurance sector. In India, however,

such a specialisation is conspicuously absent. Most Indian law firms have now developed

focussed practices around other areas such as infrastructure, telecom, oil and gas, etc., but

specialisation in the insurance and reinsurance sector is very limited in India. To build such

specialisation in Indian firms need the assistance and advise that that can perhaps be best

achieved by engaging with experts from jurisdictions that have necessary specialisation

and expertise. While opening up of the insurance and reinsurance sector; further in terms of

capital participation will attract foreign insurers and reinsurers what is equally needed are

well developed support services such as the access to international insurance and

reinsurance lawyers.

Under section 7(1) of the Advocates Act 1961, foreign law degrees are recognised by the Bar

Council of India on a reciprocal basis, and legal academicians can teach and engage in

legal research without any bar. However, foreign nationals are prohibited from “practicing

law” in India as per the same Act.

While the Indian government has stated that the entry of foreign law firms in India is

inevitable, it has left the onus on the Bar Council of India to make rules in this regard. The Bar

Council of India has yet to make any conclusive statements on this aspect.

There has been a change in the government’s policy as well. The government has shown

interest in making Limited Liability Partnerships (LLPs) a reality in India and has taken efforts to

have an enactment in place to govern it. This would enable such law firms (as well as

accounting firms) to grow as they would no longer be required to keep their partnership

restricted to 20 Lawyers. The Bar Council is also looking into the requests for relaxing the

constraints on advertising the legal profession.

A greater number of foreign clients are now involved in Indian transactions, , which is why the

foreign law firms are to establish a base in India, to better serve their clients here; rather than

serve them from Singapore or Dubai. The reinsurance hub would both accelerate and

benefit from this process.

There are numerous arguments to the opening up of the Indian market: increased

professionalism may be the primary one, but reciprocity and international law obligations is

definitely a strong one as well. The entry of large MNCs into India has created a niche for

foreign-Indian legal collaboration which can take place if the Advocates Act is amended

and the Bar Council takes the necessary steps to build a consensus on the issue.

As long as the basic principles set out by International Bar Association, that is, fairness,

uniform and non-discriminatory treatment, clarity and transparency, professional

responsibility, reality and flexibility are met, the entry of the foreign law firms should be a

possibility.

So far as reciprocity is concerned level playing field and uniform code of conduct will have

to be worked out. For example, there is a cap of 20 on the number of members of any law

firm. However, with the introduction of LLPs this problem might be solved. Further, many

western nations allow their lawyers to market their services; whereas in India the lawyers are

43

not allowed to do so. Reciprocity should be clearly defined and must be effective. Also, the

“single window services" concept of the FLFs, that is, services which not only include legal but

also accountancy, management, financial and other advice to their clients may be

problematic in terms of the current legal and regulatory framework governing the practice

of law in India. Also, privileged legal information being passed on to the wrong people could

be a concern. The Advocates Act 1961, Bar Council Rules and Code of Conduct would

need to be reviewed and amended to bring international legal practice within its fold.

To conclude, if India plans to develop itself as reinsurance hub, it is imperative to have a

robust legal system, an effective arbitration system and access to international legal and

professional expertise.

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VI. Appendices Appendix 1: One Insurance Vision

Need for Government / Regulatory support for ONE Insurance Vision and its delivery with

Global Benchmarks

Introduction

The Indian (re)insurance market requires an enabling environment for a modern, transparent

and profitable global market place, attractive to both capital providers and policyholders as

a place to do business.

The additional requirement is to make the insurance market even more transparent to the

regulator and key external commentators, in line with the mandate given to the Indian

Insurance Regulator, “to protect the interests of holders of the insurance policies, to regulate,

promote and ensure orderly growth of the insurance industry and for matters connected

therewith or incidental thereto”.

Prudential Regulation in primary legislation

At a general level, it is important that the framework to govern prudential regulation should

not be addressed in primary legislation, but instead the IRDA should be conferred with

powers to draft and implement such regulations. Setting down detailed requirements in

primary legislation restricts the ability to modify regulations quickly and effectively. In

contrast, granting the IRDA the authority to set the prudential regulatory framework would

enable it to amend its requirements in the light of experience and changing circumstances,

an important tool in a dynamic supervisory environment.

Currently, there are myriad laws in India which are part of the primary legislation involving

number of Ministries and Government Departments at the Central Government, ranging

from Ministry of Finance, Transport, Labour, Health, Law and Revenue to name a few, with

different and differing goalposts, at times.

Having all of these at the primary legislation level involve following issues:

1. There is a problem of alignment - lack of ONE Insurance Vision.

2. Since the stakeholders are many and constituencies are dispersed, it is difficult to weave

a common fabric – the inevitable fragmentation and delays continue in the system.

The fundamental principle being deployed at the matured markets needs to be deployed:

the Government providing broad thrust and direction to the economic activity and the

Regulator then growing and supervising the market. In essence, the Regulator is not taken as

the extended arm of the Government.

Lot of primary level and secondary level laws and rules / regulations in India owe their origin

to how insurance took shape and grew in the west, but whereas the matured markets have

moved on and further evolved, our practices are caught in a time warp. For instance, the

Indian Marine Insurance Act, 1963 is based on UK Marine Insurance Act, 1906 which is itself

undergoing revision. The UK Law Commission published its Insurance Contract Law Draft Bill in

late January, 2014 and opened a limited consultation on its draft clauses until February 21,

45

2014. The new rules are set to replace the 100-year-old Marine Insurance Act that forms the

basis for UK Insurance Law. Similarly, the Indian MV Act is a case in point and many more as

can be gleaned from this paper.

Regulator’s role of pursuing the development and growth of the insurance industry

According to the International Association of Insurance Supervisors’ Insurance Core

Principles, Standards, Guidance and Assessment Methodology, 1 October 2011:

1. The principal objectives of supervision promote the maintenance of a fair, safe and

stable insurance sector for the benefit and protection of policyholders.

2. While the precise objectives of supervision may vary by jurisdiction, it is important that all

insurance supervisors are charged with the objective of protecting the interests of

policyholders.

3. Often the supervisor’s mandate includes several objectives. As financial markets evolve

and depending on current financial conditions, the emphasis a supervisor places on a

particular objective may change and, where requested, this should be explained.

4. In addition to this, however, attention is drawn to the model adopted by the

Singaporean Financial Services regulator, the Monetary Authority of Singapore (“the

MAS”).

As industry regulators are in constant and direct contact with market players, they are

ideally positioned to understand the markets they supervise and to identify opportunities

to develop and grow those industries. The MAS has recognized this, and as such has a

stated mission “to promote sustained non-inflationary economic growth, and a sound

and progressive financial centre” in Singapore.

Thus, in addition to being an internationally recognized prudential regulator, the MAS has

a department devoted to developing Singapore as an international financial centre, an

aim it achieves by working to provide an attractive regulatory and fiscal business

environment, that is robustly supervised, whilst actively promoting the development and

growth of Singapore as a financial centre by incentivising business.

This model has been extremely successful, as companies wish to operate in markets that

are governed by a robust and transparent regulatory environment that is conducive to

business, an environment that the MAS has been able to foster through its dual role.

The Global response to the financial crisis of 2007/2008

Fundamentally the G 20 and FSB determined that the insurance sector was neither the

originator nor the transmitter of the financial crisis.

The IAIS (The International Association of Insurance Supervisors) has however implemented a

new set of enhanced insurance core principles and the regulators in G 20 markets are

proactively accelerating their regulatory modernization to add to these minimum

international standards. Solvency II in the European community is one such example.

46

The insurance industry, like other components of the financial system, is changing in response

to a wide range of social, technological and global economic forces. Insurance supervisory

systems and practices must be continually upgraded to cope with these developments.

The Insurance Core Principles (ICPs), Standards, Guidance and Assessment Methodology

from International Association of Insurance Supervisors provide a globally accepted

framework for the supervision of the insurance sector.

The ICP material is presented according to a hierarchy of supervisory material. The ICP

statements are the highest level in the hierarchy and prescribe the essential elements that

must be present in the supervisory regime in order to promote a financially sound insurance

sector and provide an adequate level of policyholder protection.

Standards are the next level in the hierarchy and are linked to specific ICP statements.

Standards set out key high level requirements that are fundamental to the

implementation of the ICP statement and should be met for a supervisory authority

to demonstrate observance with the particular ICP.

Guidance material is the lowest level in the hierarchy and typically supports the ICP

statement and/or standards. Guidance material provides detail on how to implement an

ICP statement or standard.

Needed Regulatory Reforms in India

With a view to promote sustained non-inflationary economic growth and a sound progressive

global insurance centre in India, the regulator in India should be entrusted with a goal of

pursuing the development and growth of the Insurance industry. The Primary Legislation

should therefore empower the regulator to effectively supervise the market.

Subordinate legislation in the form of legislations issued by the regulator can then be used to

introduce new or modify existing principles or rules including the self regulations. This

approach empowers the regulator and affords it the flexibility to respond to the dynamic

supervisory environment it encounters.

The Regulatory agenda could be prioritized around:

1. The Insurance Industry must gradually reflect a global mind set and alignments to cater

more effectively to local needs and aspirations. The Insurance Core Principles of the

International Association of Insurance Supervisors provide an effective framework.

2. An early time frame to move in the direction of RBC regime would be a pre requisite

since any further lengthening of the time line would see more of regulatory interventions

at the micro levels than at the prudential levels.

3. A gradual shift to prudential regulations than the detailed and prescriptive regulatory

management which ties both the Regulatory and regulated entities down to their last

act.

4. A similar shift from the rules based regulatory frame work to that of principles based

approach which has minimalist regulatory interventions but produces better market

response and compliance results. The March, 2013 report of the Financial Services

Legislative Reforms Commission (FSLRC) of the Government of India endorses this

approach.

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5. Public listing of the insurance companies.

There is a need for self regulations in all areas except the principles which should govern

licensing, capital adequacy, risk management, corporate governance and protection of

Policy Holders Interests. The self regulatory organizations would be held responsible for their

codes of conduct around service standards and strictest rules for stake holders’ engagement

The key to the above framework would require full co-option of the following key

stakeholders, who are an integral part of the entire insurance eco system and there is a need

to let them become fully developed Self Regulatory Organizations, within specific domains

and given mandates:

a) Insurance Councils

b) The Indian Insurance Institute of Surveyors and Loss Assessors

c) Institute of Actuaries of India (IAI)

d) Insurance Brokers Association of India (IBAI)

The Philippine Insurers and Reinsurers Association (PIRA), is applying for a self-regulatory

organization (SRO) status, as its non-life members believe that the industry can police itself by

implementing up-to-date regulations to boost their business while protecting the interests of

the public.

“We are developing ourselves into becoming a self-regulated group. We are now setting up

our own rules and regulations,” the Philippine Daily Inquirer reported, citing PIRA president

Emmanuel Que. Once finalized, the rules and regulations being formulated by the

association would be forwarded to the Insurance Commission for approval, he said.

PIRA, which has 69 non-life insurance companies as members, is also pushing for the

reduction of taxes on nonlife insurance as well as mandatory insurance coverage for

homeowners, and small and medium enterprises.

Regulatory Policy / Self Regulations must have level playing field for all players – foreign,

domestic (private and public) and strong professionals need to be the watch dogs and

three is a need to Improving social infrastructure to attract global talent – immigration laws,

housing, work permits and so on, with the Government adopting an open door Policy.

Changing nature of the Insurance Industry

The insurance industry, like other components of the financial system, is changing in response

to a wide range of social, technological and global economic forces. Insurance supervisory

systems and practices must be continually upgraded to cope with these developments.

The nature of insurance activity - covering risks for the economy, financial and corporate

undertakings and households - has both differences and similarities when compared to the

other financial sectors. Insurance, unlike most financial products, is characterized by the

reversal of the production cycle insofar as premiums are collected when the contract is

entered into and claims arise only if a specified event occurs. Insurers intermediate risks

directly. They manage these risks through diversification and risk pooling enhanced by a

range of other techniques.

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In addition to business risks, significant risks to insurers are generated on the liability side of the

balance sheet. These risks are referred to as technical risks and relate to the actuarial and/or

statistical calculations used in estimating liabilities, and other risks associated with such

liabilities. Insurers incur market, credit, liquidity and operational risk from their investments and

financial operations, including risks arising from asset-liability mismatches. The regulatory and

supervisory system must address all these risks.

Risk Based Capital Requirement and Solvency II

Risk Based Capital regime for Insurers and aligning of the solvency regimes with global

developments with compulsory listing of all companies, including the PSUs, is the first requisite.

Also needed are differential regulations for better performances e.g. higher solvency margins

for consistently high combined ratios and vice versa – with strong, consistent and equal

disclosure norms for all.

In contrast to the current regulatory solvency capital (which is 150% of the Required Capital

Margin), the Economic capital calculation recognizes the capital requirement for specific

risks a non life company is exposed to.

Whereas the current regime is a combination of regulatory capital and maintenance of

Solvency of Margin, per Insurance Act and the Regulations, the Economic Capital is a key

component of the insurer appetite framework for it provides a measure of risk related to the

business (typically, Economic Capital is calculated by determining the amount of capital

that the insurer needs to ensure that its realistic balance sheet stays solvent over a certain

time period with a pre‐specified probability, for example, the Economic capital may be

determined as the minimum amount of capital required to make 99.5% certain that the

insurer remains solvent over the next twelve months)

The word ‘economic’ indicates the fact that it measures risk in terms of economic realities

rather than Regulatory or accounting rules which may have been designed to support non

economic principles. This word also indicates that part of the measurement process involves

converting a risk distribution into the amount of capital that is required to support the risk, in

line with the insurer’s target financial strength (For example, credit rating).

The Regulatory office in India has therefore been engaging the Indian Insurance market to

get current and the future financial condition of the insurers, based on the technical notes

on Asset Liability Management and the Economic capital modelling. In its estimation of the

Economic Capital for the General Insurance Companies in India, it has drawn heavily on the

standard formulae / methodology used under Solvency II framework.

Solvency II introduces a new harmonized EU-wide regulatory regime. The Key features of

Solvency II include Economic risk-based solvency requirements where the insurers are

required to hold capital against a range of risks, not just insurance risks. It is a total balance

sheet type regime where all the risks and their interactions are considered. The Insurers are

required to identify measure and proactively manage risks.

An insurer must undertake an Own Risk and Solvency Assessment (ORSA) which aims to

ensure senior management have conducted a review of risks and that the insurer holds

sufficient capital against those risks.

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The focus of the ORSA assessment could incorporate risks posed to the wider economic

environment, including but not limited to Risk appetite and strategy, non core activities,

reverse stress testing, corporate governance, the role of the chief risk officer etc.

Solvency II further ensures harnessing market discipline to support regulatory objectives. It

aims to ensure consistent supervisory reporting and disclosure across the EU. Insurers should

be prepared to disclose more information publicly than at present.

Solvency II and Lloyd’s Framework Directive continues to treat Lloyd’s as a single entity - the

“Association of underwriters” known as Lloyd’s - and the Solvency II capital requirements

apply to Lloyd’s as a whole.

FSA (now PRA), UK is generally cited as a leading regulator globally and one of FSA’s key

strengths is the rigorous approach it brings to policy formulation and implementation. For

instance, in terms of the implementation of Solvency II the attempt is to approach the

expected change in the implementation date to January, 2016 in a way that allows

breathing space without losing momentum.

It is imperative that we work on a definitive time frame in India to align ourselves to the

Solvency II regime as a proactive measure, the lines of businesses strictly following the broad

international practices and definitions. Perhaps 1st April, 2016 would be a good timeframe to

move in the direction of Solvency II

Currently, the gross claims of an Insurance company is being used in a formula for estimating

the solvency which is anomalous since net claims is a better methodology and the regulatory

concerns for re insurance arrangements would be better met with full movement to

economic capital and risk based capital per lines of businesses.

Other areas – illustrative and not exhaustive

1. Section 27 of the Insurance Act says, “No insurer shall directly or indirectly invest outside

India the funds of the policy holders.

In contrast, China has opened its markets to about 45 countries – the iconic Lloyd’s,

London now belongs to Ping An – a Chinese Life Insurer.

2. Under Section 25 if the IRDA Act, 1999 the Insurance Advisory Committee, which advises

the Authority shall consist of members representing commerce, industry, transport,

agriculture, consumer forum, surveyors, agents, intermediaries, organisations engaged in

safety and loss prevention, research bodies and employees’ association in the insurance

sector.

There are two issues here: a) it is prescriptive and b) under the proposed Insurance

Amendment Bill, 2008 the Insurance Council (a body for Insurers) shall have members

beyond Insurers community. This is again not following a visionary script.

3. The Insurance Act, 1938 (primary legislation) defines “general insurance business” to

mean “fire, marine or miscellaneous insurance business, whether carried on singly or in

combination with one or more of them”

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The issues: a) there are so many business classes, both traditional and modern, which

don’t get reflected b) the definitions defy modern and global business practices c) these

lead to cascading regulatory regimen which are not in sync with global practices.

4. The primary legislation prescribes ceilings on insurance commission, payment of

commission and on Expenses of Management u/s 40, 40B & 40C leaving the Regulator

little scope to steer the regulatory ship and trim its sails according to market priorities.

5. The current legislative set up does not allow the foreign re insurers with the ability to set up

their Branch office operations including Lloyd’s of London to set up their market structure,

much in the same way available in London / Singapore.

The latest Asia Insurance Review, Jan 2014 says, “Since the privatisation of the insurance

industry in 2000, a number of foreign insurers have set up JVs in India. However, no foreign

reinsurer has set up full-fledged operations in the country”.

With rapid economic growth over the past few years and the country emerging as the major

world power, the time is ripe for a reinsurance hub in the country.

“The entry of global reinsurers can further support the underwriting activities of Indian insurers

and encourage more domestic investment in Indian insurers.

The Government and the Regulatory Agenda for Indian Insurance Industry, seen in global

context and with domestic imperatives, must partake of ONE Insurance Vision and allow the

Insurance Industry become a key driver for the economic growth in the country.

Clusters and Competitive Advantage

Clusters are geographic concentrations of interconnected companies, specialized suppliers,

service providers, firms in related industries, and associated institutions in particular fields that

compete but also cooperate. A cluster may thus be defined as a system of interconnected

firms and institutions whose value as a whole is greater than the sum of its parts.

More importantly, the presence of a cluster not only increases the demand for specialized

inputs but also increases their supply. Where a cluster exists, the availability of specialized

personnel, services, and components and the number of entities creating them usually far

exceeds the levels at other locations, a distinct benefit, despite the greater competition.

Clusters affect competition in three broad ways: first, by increasing the productivity of

constituent firms or industries; second, by increasing their capacity for innovation and thus for

productivity growth; and third, by stimulating new business formation that supports innovation

and expands the cluster.

Clusters also create new roles for government / regulator. Removing obstacles to the growth

and upgrading of existing and emerging clusters and Competition should be a priority.

Clusters are a driving force in increasing exports and magnets for attracting foreign

investment.

It is important IRDA becomes a force multiplier in India’s quest for a truly international

reinsurance hub.

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New Paradigms and a Comprehensive Agenda needed to serve Policy Holders’ Interests

Alvin Toffler identified the emergence of participatory structures and producer/consumers or

“prosumers” as far back as 1980 in “The Third Wave” based on reintegration of the Consumer

and the Producer that means people have a “voice”.

The “Voice” can be lent to the insurance contracts, through

the creation of “Contract Certainty” (the risk appraisals, disclosures and defined cover

terms and the obligations of the contract parties – all reflecting in the Contract);

Creation of robust dispute resolution mechanism, and take care of the evolving

paradigms with increasing globalization.

Ushering into civil liability resolution rather than criminal prosecutions

When risks materialize and give rise to claims, they need to be speedily settled and the

disputes, if any, need to be resolved quickly. A comprehensive institutional mechanism that

casts fairness and responsibility on both sides truly balances the “Prosumer” and is the one

that truly promotes Policy Holders’ interest.

Contract Certainty is achieved by the complete and final agreement of all terms between

the insured and insurer by the time that they enter into the contract, with contract

documentation provided promptly thereafter.

Contract Certainty in the Indian Market would require clear, modern contract wordings for

policies and reinsurance slips and minimum and modern underwriting guidelines as guidance

for the market, with fair degree of innovation and self control on products, pricing and

process areas within a principles based framework.

This would also call for aligning Act Provisions, the Regulatory Interfaces and various Judicial

Pronouncements besides modernizing and updating various Acts / Regulations etc. Few

samples are given here:

i) Section 64UM – Conflicting Judgments

The following are two judgments which are conflicting in views expressed on power of

Insurance Company to appoint a second Surveyor.

(i) Venkateshwara Syndicate vs Oriental Insurance (2009) 8SCC 504) wherein the Supreme

Court held that an Insurance Co had a right to appoint a second surveyor without going to

the Regulatory Authority. See Para 33 to 35; where court holds that under 64 UNM (2) there is

no prohibition in the Insurance Act for appointing a second surveyor by the Insurance Co.

Thus in the opinion of the Supreme Court an Insurance Co has an inherent right to appoint a

second surveyor after giving reasons.

(ii) India Insurance Co Ltd vs Protection Manufacturer's Pvt Ltd. (AIR 2010 SC 3035). In that

case Insurance Co had appointed a second surveyor. It had been contended by Insured

that that 2nd surveyor could not have been appointed unilaterally by Insurance Co having

regard to Section 64UM without first having applied to Regulatory Authority under the Act.

That contention was upheld and second surveyors report was therefore discarded. See Para

35 of that judgment.

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This Judgment however does not take into consideration Supreme Court’s view expressed in

para s 33 to 35 of the earlier case of Venkateshwara Syndicate vs Oriental Insurance (2009)

8SCC 504.

In the above circumstances, it is not clear which Judgment is the correct law.

It can be argued that Judgment in case of Protection Manufacturer's Pvt Ltd is not good law

as it is per incurium that is bad law as it has not considered and over ruled the earlier

Supreme Court judgment.

On the other hand, there are Supreme Court rulings that its last Judgment is correct law in

which case Protection Manufacturer's case would be regarded as the right and applicable

Law.

The view expressed, however, in case of Protection Manufacturer's Pvt Ltd is in consonance

with the provisions of the Section 64 UM. Per Regulatory Authority a second survey Report

can only be obtained under 64 UM (3) if there are good reasons so pointed out by the

Insurance Co.

While on the subject in Jagannatha Poultries v NIA (2012) where the Protection

Manufacturers case has been referred to, and at paragraph 8, the National Commission has

stated that a second surveyor can only be appointed under the aegis of the IRDA. The case

is important because this is the forum (the National Commission) where most of the insurance

cases are heard and it would be useful to show the recent outlook of this forum.

ii) Section 64VB

There are varying interpretations by the Insurers on Section 64 VB despite the existence of the

Insurance Rules, 1939. These need to be harmonized to achieve greater transparency in

protecting the interests of the Policy Holders.

iii) Public Liability Act, 1991

The Act after its enactment in the year 1991 hasn’t been updated / changed. For instances,

arising out of an incident as defined in the Act, the compensation payable for fatal injuries is

just Rs 25,000.00 which is insignificant in today’s context.

The Act needs to be realigned to reflect the current requirements and obligations to better

protect the Indian consumers.

iv) The implications of Companies Bill, 2012 on D&O Policies

The new Companies Bill 2012 needs dovetailing in the D&O Policies especially on the

following issues:

Class Action suits that can be filed by the investors before the National Company Law

Tribunal

Governance Scores based on Governance Indicators / Strategic Indicators /

Performance Indicators and Policy Indicators.

The Indian consumers should know that the Indian shareholders of Satyam did not receive a

penny as compensation from US Class Action suits whereas a Class Action suit was settled in

53

US against Satyam at USD 125 Million and a Class Action suit was settled against PWC at USD

25 Million.

A detailed research and concerted efforts from the stakeholders would help the Indian

consumers face this challenge.

v) Motor Insurance Third Party Liability Insurance –

The Motor Vehicle Act, 1988 (the ‘Act’), makes it mandatory for every vehicle plying on the

public roads to have an insurance coverage against any third party liability of the vehicle

owner.

There are however lots of discordant notes, and to name a few:

Unlimited period for preferring a claim

No Amendment in the MV Act for the last many years

Fraud against the Insurers

Insured vs. uninsured vehicles – Though only 48% of the vehicles plying on road were

insured in 2009-2010 (statistics sourced from the IRDA and the Transport Ministry) 99%

of the road traffic deaths and injuries are claimed and awarded against the insurers.

Delays in the adjudication of claims – In some of the states, Courts take up to 10 years

or more for awarding compensation to the claimants, which jeopardizes the nature

of summary proceedings.

Inadequate penalty for violation of traffic laws

Limited defences to the Insurers

These need realigning lest it continues to reflect poorly on the effective delivery of insurance

mechanisms. The MV (Amendment Act) has been approved by the RajyaSabha after years

of delay but hasn’t received the assent of LokSabha – this itself is an interim arrangement

and a fresh attempt would perhaps be still required to cater to the recommendations of the

Sundar Committee, which among other things, has suggested divesting Third Party Provisions

from the MV Act and to get a new Act enacted under the Ministry of Finance.

Meanwhile, the Supreme Court of India is looking into the related cases as a consolidated

endeavour to get clarity to the Insurance Industry on application of the Section 64 VB of the

Insurance Act and the issues around gratuitous passengers in goods carrying passengers /

the Driving licenses / Permits for the Commercial Vehicles / recovery rights / Liabilities falling

under the Workmen’s Compensation Act and the Contributory negligence etc.

The years of delays, however, is causing continued misery and leaving all stakeholders

dissatisfied.

vi) Protection of Policy Holder’s Interests –

The IRDA notification of 16th October 2002 and its Regulations on Protection of Policyholders’

Interests has in terms of its Short title and commencement, Definitions such as Cover,

Proposal, Prospectus, Points of sale, matters to be stated in policy, claim procedure, aspects

on Policyholders’ Servicing as well as General regulations are an omnibus provisions for life

and non life markets (though there are segregations as well).

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These however need to be re cast differently for the non life Industry where the Personal lines

and Commercial lines are so very different in terms of their core composition, focus and

deliveries and therefore need to be discriminated along these lines.

The continuation of the omnibus provisions are bound to have issues with various authorities –

such as Regulatory, judicial or quasi judicial bodies and so for, without necessarily promoting

and /or protecting policy holders interests.

vii) Conclusion

It is important therefore that the Insurers and the Regulatory Authority work towards complete

Contracts Certainty. This would also call for aligning Act Provisions, the Regulatory Interfaces

and various judicial pronouncements besides, modernizing and updating various Acts etc.

One possible benchmark is the attempt in the UK market currently underway is the work

being done by the UK Law Commission in the Insurance Contract Draft Bill. The new rules are

set to replace the 100-year-old Marine Insurance Act that forms the basis for UK insurance

law.

Of key interest to the Risk Management Association of the UK are the proposed changes to

duty of disclosure rules. It wants disclosure requirements made clearer and proportionate to

the size of the company seeking cover and has applauded proportionate remedies where

duty of disclosure is breached. The association is pleased that the draft law encourages

active engagement by insurers in the disclosure process.

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Appendix 2: International reinsurance hubs

The leading International Insurance Hubs have evolved and flourished, among others,

through:

A sophisticated and supportive regulatory environment

A progressive legal system

Tax Incentives

Good quality facilities and services

Talent Pool

London

Insurance in London began well over 400 years ago, and gained prominence in the 19th

century, reflecting Britain's then dominant role in shipping and shipbuilding. As the British

Empire expanded, London developed into a dominant global financial centre. For most of

this period, the marine insurance industry was dominated by Lloyd's, but a flourishing

company sector also developed and later expanded to embrace emerging aviation and

energy markets. By the 1980s, the company non-marine sector had also grown to match the

Lloyd's market, boosted by an influx of overseas capital.

The London Market

The 'London Market' is a distinct, separate part of the UK insurance and reinsurance industry

centred in the City of London. It comprises insurance and reinsurance companies, Lloyd's,

P&I clubs, and brokers. The core activity of the London Market is the conduct of

internationally traded insurance and reinsurance business. This is mostly non-life (general)

insurance and reinsurance, with an increasing emphasis on high-exposure risks. There is also,

however, a significant amount of life reinsurance activity in London. Despite the growth of

other international centres, London retains its position as the world's leading international

insurance and reinsurance market.

Composition

There may be far fewer companies operating in the market than in the late 1980s, but their

average size has increased, and so has the overall level of business. The London Market's

international character is reflected not only in the sources of its business but also in the

nationalities of its participants and their ultimate owners. A majority of the companies

underwriting in the London Market are foreign or foreign-owned. It is still the only centre in

which all of the world's 20 largest reinsurance groups are represented.

Competitive Strengths

An important competitive strength of the London Market lies in the number, diversity and

expertise of the insurers competing here. Brokers can find the capacity and expertise

required for the underwriting of virtually any type of risk. Brokers control most of the

business placed in the market.

London is largely a subscription market where risks are shared. A key feature is the

presence of highly skilled 'lead underwriters' whose judgments on premium rates to be

charged for different risks are followed by other insurers in London and indeed other

markets across the globe.

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Another important attribute is geographical concentration with many insurers and

intermediaries and professional services providers located in close vicinity within the City

of London. Thus, brokers can know personally the strengths, specialties and reputations of

the underwriters and the insurers with whom they deal, and readily tap the combined

underwriting capacity for all sectors of the market. The London Market also contains an

unrivalled pool of service providers and technical expertise all located within close

geographical vicinity, such as law firms, accountancy and audit firms, IT support,

surveyors, professional bodies and many others.

The London Market operates under liberal and effective regulatory supervision, and a

transparent and reliable legal system. This enables business to be transacted in a secure,

innovative and attractive environment.

London has a huge pool of skilled personnel.

Other benefits include the use of English and London’s location and time zone part way

between Asia and America.

Key facts on London as a global insurance hub

1. The London Market is the only place where all of the world’s twenty largest international

insurance and reinsurance companies are active.

2. The 19% marine insurance premiums transacted on the London Market in 2011 was higher

than in any other country. London accounts for around a 10% share of total world

reinsurance.

3. In the Global Financial Centres Index 2013, London is ranked as the top financial centre.

And is the top financial centre for insurance. The factors identified as underpinning

London’s status as an international hub are:

A central geographical location between the US and Asian time zones allowing

London to work virtually around the clock.

Easy access to markets combined with a tradition of welcoming foreign firms.

Altogether, there are over 1,400 financial services firms in the UK that are majority

foreign-owned, from around 80 countries.

High quality professional and support services.

Substantial and modern office accommodation and efficient telecommunications

infrastructure.

Concentration of financial institutions. London has more foreign banks than any other

centre. These banks employ around 160,000 people, 40,000 of whom have a foreign

passport.

A consistent, politically neutral legal system that is widely used and understood

globally.

4. In 2012, the total income for the London market was £49.725 billion (US$74.6bn) (IUA,

2012).

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5. The UK insurance industry is the third largest in the world and the largest in Europe. It

manages investments amounting to £1.8 trillion (equivalent to 25% of the UK’s total net

worth) and contributes over £10 billion in taxes to the Government. It employs around

320,000 people in the UK alone. The insurance industry is also one of this country’s major

exporters, with 26% of its net premium income coming from overseas business (ABI, 2013).

6. The London market is the centre for UK’s “invisible export” business. 46% of the London

company market’s premium income (2012) and 82% of Lloyd’s premium income comes

from outside of the UK (2011).

7. Insurance is the largest single component in the UK’s invisible exports – which in 2008 hit

£54 billion.

8. 66% of Lloyd’s premium income comes from outside of Europe (2011).

9. 68,900 people are employed in insurance in London – over 10% of the 669,600 employed

in financial and related professional services (London Employment Survey, June 2013).

The London financial and professional services sector accounts for 15% of regional

employment.

10. London’s global success as a financial and business centre is founded in its openness to

international business – it is home to around 250 foreign banks, 200 overseas law firms –

and a crucible of global expertise and experience of global deals. London is the

collector and implementer of global best practice and bespoke solutions. It is

liberalization that has made London a great financial centre.

Singapore

It is now a decade since Singapore opened up entry to the direct general insurance industry,

removing the cap which had existed on the percentage of foreign ownership of local

insurance companies. During the intervening period the Singapore insurance market has

markedly developed and matured and can now rightfully lay claim to being Asia’s premier

insurance and reinsurance centre.

The international insurance companies have increasingly opted to base their regional

headquarters in Singapore and as of June 2013 in the non life market there were 51

registered insurers and 17 non life authorized reinsures in Singapore.

These developments have been led by the growth of OIF reinsurance business, with risks from

all around the region now being placed into the Singapore reinsurance market. Gross

premiums of Offshore Insurance Fund (OIF) business have risen rapidly, from just over S$1.7

billion (US $ 1.23 billion) in 2000, to S$ 6.8 billion in 2012. During the same period, Singapore

Insurance Fund (SIF) business also rose, from S$1.7 billion to S$ 3.6 billion in 2012.

As well as establishing itself as the regional hub for reinsurance business, Singapore is also the

largest domicile for captive insurers in the region. As of July 2010 there were some 62 captive

insurers based in Singapore, up 20 per cent from a decade ago. This in turn has prompted

the establishment of numerous captive managers to service this sector of the industry.

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Technical expertise

The local market has developed rapidly in terms of industry expertise. The Financial Sector

Development Fund has been established to support the training needs of insurance

companies based in Singapore through schemes such as the financial Training Scheme and

the Financial Scholarship Program. Industry initiatives such as the Global Internship Program

are also proving successful.

In addition to local programs focused on training, Singapore’s high standards of living and

services have led to an inward migration of experienced insurance professionals, which in

turn has assisted in further developing existing local expertise.

The growth in the industry has also led to a flood of ancillary providers, such as specialized

reinsurance lawyers, forensic accountants and business recovery experts establishing a local

presence.

Supportive regulatory environment

The Monetary Authority of Singapore (“MAS”) the island’s insurance regulator is very

supportive of the development of the insurance industry and its approach is indicative of the

country’s fair regulatory environment. Various financial incentives have been made

available to global insurers considering setting up regional headquarters in Singapore.

The attraction of Singapore for many foreign insurers is less the market itself than the

opportunities it offers as an insurance hub as a whole, a role that the Monetary Authority of

Singapore (MAS) is keen to promote and, faced with an increasingly competitive local

market, companies are likely to look more and more to offshore business.

The MAS continues to refine its hands-off approach to market supervision, relying increasingly

on self-regulation through the General Insurance Association (GIA) and by means of

legislative instruments such as risk based capital and corporate governance. It has stated its

intentions of continuing to promote Singapore as the main insurance centre in Asia by

encouraging investment in insurers and captives, particularly those writing foreign business.

The MAS enjoys a good relationship with the insurance companies and the GIA. There is a

strong mutual respect and a tradition of consultation in connection with any legislative

change that will affect the market.

The GIA carries out activities that promote and advance the common interests of members

and general insurance industry through:

Fostering public confidence in, and respect for, the insurance industry

Representing members’ interests to government, trade bodies, similar associations and

bodies in other industries

Establishing a sound insurance structure and promoting greater efficiency within the

industry

Promoting education and training in all aspects of insurance

Being a good corporate citizen

The Association has a self-regulatory function that is enforced through market agreements.

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The association’s objectives include examining and giving guidance on technical matters,

considering enquiries and suggestions from government bodies, private corporations and the

general public, and organizing seminars, workshops, surveys and dialogue between

members and interested parties.

Lloyd’s Asia

Indicative of the movement of underwriting capital into Singapore is the Lloyd’s Asia

Platform, on which Lloyd’s syndicates write local and offshore business through service

companies.

Established in 1999 pursuant to the Lloyd’s Asia Scheme, the Platform has seen rapid growth

in recent years. There are twenty six syndicates trading on the Platform through service

companies.

Syndicates planning to establish a service company to trade within Lloyd’s Asia require

approval from both Lloyd’s and locally from the MAS. In addition to being subject to the

Lloyd’s Asia Regulations in Singapore, they need to comply with Lloyd’s Acts and Byelaws,

such as the Lloyd’s Asia instruments which exist for both Singapore and offshore policies.

Service companies must also sign up to the Lloyd’s Cover holder’s undertaking. Requiring

amongst other things that cover holders agree to comply with local insurance, fiscal and tax

laws, regulations and requirements of the jurisdiction in which they trade.

In parallel with the rapid growth in the number of syndicates there has, unsurprisingly, been a

marked increase in premium income increased from US$ 50.8 million in 2005 to US $ 521.2

million in 2012.

The Legal Framework

A legal system based on tried and tested common law principles and Singapore’s reputation

as an open and fair jurisdiction for dispute resolution have also assisted this development.

Whilst specific legislation has been enacted with regard to the regulation of insurance

business, the law applicable to insurance contracts in Singapore generally follows English

common law which, so for as it was part of the law before 1993, broadly continues to apply

in Singapore. Decisions of the English Courts on matters of insurance and reinsurance are

highly persuasive, providing reassurance to international underwriters familiar with the

approach and application of English law.

In addition, due to local law and regulation in various jurisdictions in the Asia Pacific region,

often fronting arrangements are necessary, with local insurers providing direct cover (usually

subject to local law) to insured and then ceding all but a small retention to reinsures, many

based in Singapore or London seeking to iron out any difference in conditions resulting from

local law.

Law and jurisdiction/arbitration clauses are of particular importance in insurance and

reinsurance contracts but are regularly given insufficient consideration when policy terms are

agreed. Underwriters who may be familiar with English market practice and principles of

insurance may be disappointed if a dispute over the meaning of policy terms leads to

unexpected results if it is litigated in a civil law country such as Thailand of the Philippines.

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It is in such situations that regional offices of specialized international reinsurance law firms

prove their worth, applying a combination of legal expertise in the industry with local and

regional knowledge and understanding. This is often most valuable in the management of

large and complex disputes but equally can assist in the first place. Many disputes are

successfully concluded without recourse to formal dispute resolution however such legal

expertise is invaluable when managing complex cross-border litigation and arbitration.

A growth centre for arbitration

Related to this, there is another development worthy of note. In parallel with and

complementary to the evolution of the insurance sector has been the growing reputation of

Singapore as a regional and global centre for arbitration. This has been assisted by a judicial

philosophy which is supportive of arbitration and perhaps more obviously, the enactment of

legislative changes to liberalize and update the legal regime for arbitrations and open up

the legal market for practitioners.

In 2004 the Legal Profession act was amended to remove restrictions on foreign lawyers

representing parties in arbitration in Singapore. Foreign lawyers can now appear as counsel

in Singapore law arbitrations and give advice, prepare documents and provide assistance in

relation to or arising out of arbitration proceedings (other than taking steps before the local

courts).

This is of substantial importance for the reinsurance industry as it enables international law

firms with globally recognized reinsurance pedigrees to act on behalf on behalf of clients in

disputes being arbitrated in Singapore. This is particularly relevant as more and more policies

issued are providing for disputes to be resolved by Singapore law and arbitration.

Singapore has bolstered its stance as a regional reinsurance hub by developing its offshore

insurance fund business, which has delivered significant growth and favourable results over

the past decade. For many foreign Companies, the attraction of Singapore is not just the

domestic market but also the opportunities and convinces the country offers as a regional

Asia-Pacific hub.

Singapore is the leading reinsurer market of the Association of Southeast Asia Nations.

Increasing trade and investment activities across ASEAN countries have raised reinsurance

demands. In addition to traditional property lines, marine and energy lines offer substantial

room for further growth in Singapore, as well as agriculture, casualty and specialty risk for the

region.

Singapore aims to become a global insurance marketplace by 2020, according to MAS. To

achieve this vision, MAS Managing Director Mr. Ravi Menon said that the regulator is pursuing

four strategies.

They are to include supply-side capacity by increasing the depth and breadth of the

industry;

to promote Asian insurance demand; to develop a true marketplace, where sellers and

buyers come together to negotiate and trade risk; to foster a conducive business

environment.

Amongst the top 25 reinsurers in the world, Mr. Menon said 16 have regional hubs here.

Singapore has also build up significant expertise in specialty insurance, namely marine,

energy, catastrophe, credit and political risks.

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Key facts on Singapore as a global insurance hub

1. It is projected that over the next decade, the insurance business in Asia will grow at

about 8% per annum. By 2020, Asia is likely to account for almost 40% of the global

market (MAS, November 2013).

2. Since the liberalisation of the insurance industry in 2000, offshore business has been on a

steady uptrend, growing an average of 13% per annum to US$5.4bn in 2012. The share of

offshore non-life business has increased from 50% in 2000 to 65% in 2012.

3. Amongst the top 25 reinsurers in the world, 16 have regional hubs in Singapore.

4. Singapore now hosts over 70 insurance brokers. Four of the top five brokers in the world

have their regional hubs in Singapore.

5. In Singapore, the market has built up significant expertise in specialty insurance, namely

marine, energy, catastrophe, credit and political risks. Singapore is now the second

largest market for structured credit and political risk worldwide after London.

6. Asia’s first association for risk managers, the Pan-Asian Risk and Insurance Management

Association (PARIMA), was set up in Singapore in April, with strong support from the

insurance industry.

7. Singapore has been chosen to host the Geneva Association General Assembly in 2015 –

only the second occasion it will be hosted in Asia (after 2009 in Japan).

8. Singapore is identified by the Global Financial Centres Index 2013 as a financial centre of

growing importance. It was ranked fourth (after London, New York and Hong Kong), but

was mentioned as the top centre “likely to become more significant”.

China - Shanghai Insurance Exchange

China’s central government is to pilot an insurance exchange in Shanghai, according to the

Head of the country’s China Insurance Regulatory Commission (CIRC). According to

FeiGuang, head, Shanghai Bureau of the China Regulatory Insurance Commission (CIRC), -

the newly established Shanghai Free Trade Zone (FTZ) opened in late September in 2013 will

be positioned as a testing ground for China’s offshore insurance market, and will challenge

existing international insurance centres for business.

FTZ would also be a pilot site for overseas investment operations of domestic insurance funds,

focusing on disaster insurance and risk management. Mr. Pei also reiterated that the zone

would develop key insurance business, namely shipping insurance, high-end health

insurance, liability insurance and credit insurance. Mr.FeiGuang said “the purpose of setting

up offshore business is not to increase competition in the domestic market. Rather, it is to

compete in the international market, particularly to compete against Japan, Singapore,

Hong Kong, etc. We have that late-mover’s advantage. With support from all sides, our

offshore insurance pilot zone should be able to attain satisfactory results.”

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Leoh Ming Pei, at an investment seminar said that insurance regulations in the FTZ, such as

those governing market access, product supervision and solvency, would be crafted to be

more market-oriented and expects that a shipping insurance association mission is to make

Shanghai an international marine insurance centre.

Foreign players would be allowed to participate, the reports claimed. In future the exchange

might expand to include risk securitizations, catastrophe bonds another derivatives.

China Regulator cracks open the door to captive insurance The China Insurance Regulatory

Commission (CIRC) has made preliminary steps towards the setting up of captive insurers by

giant corporations, following the establishment of the country's first captive insurance

company after more than a year of preparations. The insurance regulator, which is likely to

first run a pilot program on captive insurance, will soon issue a set of rules for setting up

captive insurers, reports the 21st Century Economic Report. It has issued a notice which

serves as temporary regulations governing captive insurance.

Among several requirements, CIRC says that the holding company of the captive insurer

must have total assets exceeding CNY100 billion (US$16.5 billion) and be profitable and

operate on a large scale. Currently, around 50 Chinese enterprises meet these criteria. The

notice says that the capital of the captive insurer has to be commensurate with the risks it

has to cover. The rules also stipulate that the captive insurer is to provide cover for the

group's property, short term healthcare needs of employees and injury due to accidents.

China’s largest oil and gas producer and supplier, China National Petroleum Corp (CNPC)

and its subsidiary Petro China have established the country's first onshore captive insurance

company. The captive is based in Karamay City in oil-rich Xinjiang in western China. It has a

registered capital of CNY5 billion. The group's application for a captive insurance license was

approved by CIRC in October 2012. The captive is seen as a trial project by the CIRC.

Industry sources say that for captive insurance to take off in China, the sector will need

captive-specific regulations. Capitalization, investment, operating and supervisory

requirements need to be set out firmly. Enterprises will also be comparing premium rates in

the insurance market - which are competitive - to the cost of running their own captives.

South Korea

Korean Re aims to be among top 3 worldwide by 2050Korean Re has set out a three-stage

roadmap to achieve its Vision 2050 goal to become one of the top three reinsurers in the

world. This year will be the very starting point for the implementation of the roadmap, and a

strong push will be made to tap further into the global markets, according to a statement

issued by the company, which is now ranked 9th largest internationally.

A specific set of goals has been outlined for each of the three phases. In Phase One from

2014 to 2020, Korean Re will build the foundation of improving global competitiveness. To

achieve this, it will establish an advanced pricing system; develop a pool of underwriting

experts by line of business; improve capacity and credit ratings by enhancing profitability

and issuing subordinated bonds and expand its overseas network to 10 branches and liaison

offices from seven at present. More offices will be switched into branches following its

decision to turn the Beijing office into a branch in December 2013.

In Phase Two from 2021 to 2030, the reinsurer will sharpen expertise in underwriting and risk

management. It will attract overseas strategic investors and issue cat bonds and other forms

of alternative capital to further strengthen capacity and credit ratings; seek equity

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participation in foreign businesses and establish regional headquarters in Asia, the Americas,

Europe and the Middle East.

In Phase Three from 2031 to 2050, the company would be transformed into a global

insurance group on the back of strengthened capacity and credit ratings. It will establish a

global underwriting system based on an expanded network of 40 branches and offices

worldwide and set up insurance and finance think tank to support the development of

sophisticated products and services. The new vision reflects the company’s recognition that

expanding into overseas markets should be an essential course of action in the face of

challenges such as local economic slowdown and limited potential of the domestic

commercial insurance sector, which has been one of the main lines of its reinsurance

business.

Korean Re CEO, Mr Jong-Gyu Won, said: “Vision 2050 will guide Korean Re to grow into a

global reinsurer built upon a sound risk management philosophy and expertise. And

domestically, it will help us continue to carry out the mission of supporting sustained

development of our economy, industry and society.”

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VII. References

1. Insurance market report: INDIA: Non life (P&C) October, 2010- Axco Information

Services, London

2. Article: “Path to $45 trillion Economy” – Shailesh Haribhakti, Economic Times dated

24th March, 2011

3. Report of the High Powered Expert committee on making Mumbai an International

Financial centre

4. An International Reinsurance Hub – why India needs it? - IMC Paper of 17th January,

2013

5. Effective Delivery Mechanism for Better Penetration of Insurance in India – IMC Paper

of 25th November, 2013

6. China: Shanghai FTZ throws down offshore insurance gauntlet - eDaily Asia Insurance

Review – 20.11.2013

7. Presentation from Gautam Mehra, PWC – DTC Impact on reinsurance companies

8. Singapore non life market developments – Feb 2011- Axco Information Services,

London

9. Singapore Offshore Business – eDaily Asia Insurance Review – 24.10.2013

10. China Regulator relaxes currency rules for Reinsurers - eDaily Asia Insurance Review –

16.07.2013

11. China Government to make Food Liability mandatory - eDaily Asia Insurance Review

– 31.10.2013

12. Best’s 2011 Special Report – “India non life and life Market review

13. The Lion’s share: Singapore consolidates its position as Asia’s regional reinsurance

centre: Barlow Lyde & Gilbert: Asia Insurance Briefing – Oct 2010

14. World Economic Forum Global Competitive Report, 2012 -2013 On Competition,

Michael E Porter

15. Articles in Asia Insurance Review Asia: Nat CATs expose emerging markets'

underinsurance – Munich Re etc.

16. Forty First Report Standing Committee on Finance (2011-2012) (Fifteenth Lok Sabha)

Ministry of Finance (Department of Financial Services)The Insurance Laws

(Amendment) Bill, 2008Presented to Lok Sabha on 13 December, 2011 Laid in Rajya

Sabha on 13 December, 2011

17. IRDA Regulations on Reinsurance

18. City UK Report

19. Foreign Law Firms entering the Indian Market – more pros than cons, Vrinda

Maheshwari, Chilli breeze writer

20. International Association of Insurance Supervisors’ Insurance Core Principles,

Standards, Guidance and Assessment Methodology, 1 October 2011

21. TheCityUK’s annual Economic contribution of UK financial and professional

services report

22. Lloyd’s Global Underinsurance Report, October, 2012

23. Doing Business in the Dubai International Financial Centre, PricewaterhouseCoopers

24. Effective Delivery Mechanism for Better Penetration of Insurance in India – IMC Paper

of November 25, 2014

25. An Agenda for Indian Insurance Industry – ONE Insurance Vision with Global

Benchmarks – IMC Paper of February 19, 2014 for National Summit on “Financial

Services – A Key Driver for Economic Growth”

26. Law Business Research, 2014

27. AIR daily, 23 Jun 2014

65

About us

Indian Merchants’ Chamber

Set up in 1907, the 107-year old Indian Merchants’ Chamber is a premier Chamber of trade,

commerce and industry in India, an apex Chamber of trade, commerce & industry with

headquarters in Mumbai. It has over 3200 direct members, comprising a cross section of the

business community, including public and private limited companies and over 200 affiliated

member associations through which the Chamber reaches out to over 2,50,000 business

establishments in the country. IMC is also the first Chamber in the country to get ISO

9001:2008 accreditation in India.

IMC, set up in the wake of the ‘Swadeshi Movement’ by the visionary business leaders, has

done a yeoman service during the freedom struggle of India. Hence, the Father of the

Nation, Mahatma Gandhi accepted the Honorary Membership of IMC, the only Chamber in

the country which has this privilege. IMC has always worked towards the cause of upliftment

of the Society, and has been organizing seminars, workshops, etc. for promotion of trade and

investment and extending the hand of cooperation to the Society at the time of natural

calamities like flood, earthquake, etc. IMC is always seized of the contemporary socio

economic issues and make best efforts to find out the solution. We have been constantly

fighting for “good governance” and the issues like corruption, as IMC believes that good

governance is a panacea to the complex problems of India.

A Century of Service to the Nation has three distinct phases:

A crucial role in freedom struggle in the pre-independence era (1907-1947).

A vital and an equally important role in the promotion of trade, commerce & industry in

the planned economy in the post-independent era (1947-1991)

Promotion of business to become globally competitive in the post-liberalisation era

(1991-2012).

IMC celebrated its Centenary in 2006-07. The celebration was launched by former President

of India, Dr. A.P.J. Abdul Kalam. Also as recognition of the services rendered by IMC, a

commemorative postal stamp was released by the Department of Post, Government of

India. The closing ceremony of the celebrations was done at the hands of Mr. P.

Chidambaram, former Finance Minister, Government of India.

In its second century it continues to serve with greater zeal the cause of trade, commerce

and industry, especially in terms of global trade and investment and has in place 142

Memorandums of Understanding with leading chambers of commerce in over 50 countries.

Its annual India Calling programme brings investment and trade opportunities in its target

countries and in India to the attention of business and political leaders. Target countries

hitherto have included Singapore, UAE, U.K., South Africa, Canada, Brussels (Belgium), Turkey,

Vietnam, China and Myanmar.

With its commitment towards social upliftment at the forefront, IMC has selected ‘Growth with

Governance’ as its theme for the year 2014-15. Various programmes and activities

undertaken by the Chamber throughout the year will be centered on this theme.

66

City of London

The City of London Corporation is the local authority of the business district of London, known

as the 'Square Mile'. The City of London has a unique concentration of international expertise

and capital, with a supportive legal and regulatory system, an advanced communications

and information technology infrastructure and an unrivalled concentration of professional

services. The City of London is apolitical and it works on behalf of the UK-based financial

services industry.

In order to strengthen direct links with India, one of the world’s largest and most vibrant

emerging markets, the City of London has established the India Office in Mumbai, to

promote all UK-based financial and related business services. The City of London India Office

works to further strengthen trading and investment links in both directions between India and

the UK through the provision of world class financial services and products.

The City of London India Advisory Council steers the work of the India Office and provides

guidance on the City of London’s engagement with India. Members include: Mukesh

Ambani (Chairman of Reliance); C.B. Bhave (Former Chairman of the Securities and

Exchange Board of India); Jaspal Bindra (Group Executive Director & Chief Executive Officer

Asia, Standard Chartered Bank); Naina Lal Kidwai, Country Head India and Director HSBC

Asia Pacific; Rajiv Lall (Executive Chairman of Infrastructure Development Finance Company

(IDFC)); Rajiv Luthra (Founder and Managing Partner of Luthra & Luthra Law Offices); Rajiv

Memani (Chief Executive Officer & Country Managing Partner of Ernst & Young); Zia Mody

(Senior Partner of AZB & Partners); Nasser Munjee (Chairman of Development Credit Bank);

Ravi Narain (Vice Chairman of the National Stock Exchange of India Ltd); Deepak Parekh

(Chairman of the HDFC Group); Jairaj Purandare (Chairman of JMP Advisors Pvt. Ltd); Ajay

Shah (Senior Fellow of the National Institute of Public Finance and Policy, New Delhi); Shardul

Shroff (Managing Partner Amarchand & Mangaldas & Suresh A Shroff & Co) and Ajay

Srinivasan (Chief Executive Officer (Financial Services) and Director of Corporate Strategy

and Business Development - Aditya Birla Group).

67

Disclaimer

The views presented by the experts are personal and do not necessarily reflect the

views of their respective organisations.

The paper, ‘A framework for developing a reinsurance hub in India’ has been

published by the Indian Merchants’ Chamber (IMC) and the City of London is

intended as a basis for discussion only. Whilst every effort has been made to ensure

the accuracy and completeness of the material, IMC and City of London give no

warranty in that regards and accept no liability for any loss or damage incurred

through the use of or reliance upon this paper or information contained herein.