Insurance Risk-Linked Bills: new resolution to regulate the securitization framework

On September 29, 2022, the Brazilian Private Insurance Authority (Susep) published the notice for Public Consultation No. 12/2022 to gather suggestions and comments from the market on the draft resolution to be edited by the Brazilian National Private Insurance Council (CNSP).

The purpose of this draft resolution is to regulate, in the (re)insurance market, the recently enacted Law No. 14.430, of August 3, 2022, which created the Risk-Linked Bills (Letras de Risco de Seguro, or LRSs in Portuguese) to be issued by Special Purpose Insurers (SSPEs) to finance and transfer insurance and reinsurance risks to capital market investors. The new resolution will replace CNSP Resolution No. 396, of December 11, 2020, which regulates Insurance Linked (ILS) – a debt instrument replaced by LRSs upon enactment of Law No. 14,430/2022.

The main changes included in the draft resolution are outlined below:

Issuance and Distribution of LRSs

To guarantee the risks transferred to the SSPEs, they must raise sufficient funds to cover such risks via issuing LRSs.

According to the draft resolution, each risk acceptance contract must be linked to a single type of risk (i.e., insurance, reinsurance, private pension, or healthcare) and a single LRS. The draft resolution also introduces a significant change concerning CNSP Resolution No. 396/2020, reducing the maturity of LRSs from 10 to 5 years.

In addition, the draft resolution determines that only qualified investors (as defined in the regulations of the Brazilian Securities and Exchange Commission – CVM) can acquire LRSs. However, the regulation also determines that SSPEs are responsible for checking whether this limitation is being complied with and grants Susep powers to supervise the securitization operations.

Asset independence

On the one hand, the draft resolution reinforces the asset independence of each risk transfer and LRS issue, so that each operation carried out by a given SSPE will be independent in relation to the others contracted by it and in relation to the SSPE itself.

On the other hand, the draft makes the independence between the SSPE and the risk transfer operations more flexible by providing that the equity of such companies may (i) respond in a subsidiary manner, for the fulfillment of the obligations assumed by such company in the respective acceptance agreement risk and (ii) guarantee the investor’s return, in case the assets supporting the operation, after the settlement of all claims, are not sufficient to guarantee it, under the terms of the LRS.

To address the responsibilities described in the previous paragraph, the draft resolution proposes that (i) the minimum regulatory capital of SSPEs be at least equivalent to the base capital applicable to insurance companies(i.e. BRL 15,000,000.00 for companies classified in the S1 and S2 segmentation levels that operate in Brazil) and (ii) the SSPEs maintain an accounting provision to guarantee the present value of the commitments assumed by the SSPE in relation to the profitability provided for in the respective LRS.

Authorization to set up and operate SSPEs

In line with the equivalence between SSPEs and insurance companies established in Law No. 14,430/2022, the draft resolution extends to SSPEs the same criteria, conditions, and requirements applicable to obtaining prior approval from Susep for (i) establishing an operating insurance companies, (ii) electing people to statutory positions, and (iii) making capital contributions.

The draft resolution also requires that the managers of SSPEs are not (i) holders of LRS issued by these companies, (ii) directors or employees of (a) counterparties of the SSPE, (b) holders of LRS, or (c) their respective parent companies, subsidiaries, affiliates or companies under common control, (iii) spouse, direct or collateral relative, up to the third degree, and, by affinity, up to the second degree of the persons indicated in item (ii).

SSPE Governance and Prudential Segmentation

According to the draft resolution, SSPEs will be managed by their directors, who must be in charge of two regulatory positions, as determined by the above-mentioned standard (i.e., a technical director and an accounting director). Such companies may also establish a Board of Directors, which will be elected and sworn in under the rules applicable to the election and investiture of directors of insurance companies.

In addition, said draft resolution also extends to SSPEs the proportional application of prudential regulation, according to the segmentation assigned to the SSPE or its prudential group, according to CNSP Resolution No. 388, of September 8, 2020. Consequently, based on the current wording of the regulation, SSPEs classified in prudential segmentation levels S1 and S2 may be required to set up a Statutory Audit Committee (by force of CNSP Resolution No. 432, of November 12, 2021).

However, the draft resolutions clarifies that SSPEs that do not have a board of directors must appoint a director responsible for monitoring, supervising and complying with the rules and procedures of independent accounting audit (observing, in this case, the restriction for such director to accumulate other management-related functions, of an executive or operational nature, or that imply the assumption of risks relevant to the SSPE’s business, according to CNSP Resolution No. 416, of July 20, 2021).

Financial statements

The draft resolution determines that SSPEs must prepare and submit to Susep their own financial statements (accompanied by separate statements for each LRS operation) at the same frequency and following the exact requirements applicable to insurance companies.

Therefore, according to Susep Circular Letter No. 648, of November 12, 2021, SSPEs classified in prudential segments S1 and S2 must prepare financial statements on a semiannual basis, while companies classified in segments S3 and S4 must prepare financial statements on an annual basis.

Final considerations

Public Consultation No. 12/2022 represents another important step towards integrating the (re)insurance, supplementary health, and closed private pension markets and, on the other hand, the capital market by creating alternative means of financing and risk spreading.

For investors, this type of investment may be an attractive alternative for diversification, considering that the underlying risks are not directly correlated to macroeconomic variables (which may be even more important in a scenario of greater political and economic uncertainty).

Therefore, all affected markets should take a stand on the proposed resolution. Suggestions and comments may be sent until October 28, 2022, using the specific standardized table available on Susep’s website.

For further information on this subject, please contact Mattos Filho’s Finance and Insurance, Reinsurance and Pensions practice areas.