US-EU Covered Agreement: an Overview

US EU puzzle pieces fit together

September 24, 2018 |

US EU puzzle pieces fit together

On January 13, 2017, the then-US secretary of the treasury and the then-US trade representative (USTR) notified Congress that they had negotiated a covered agreement with the European Union. After a period of uncertainty during which it was unclear whether the incoming Trump administration would accept the covered agreement as negotiated by the outgoing Obama administration, the US Department of the Treasury and USTR announced on July 14, 2017, their intent to sign the covered agreement, which occurred on September 22, 2017. Upon signing the covered agreement, the US Department of the Treasury and USTR also issued a joint policy statement on its implementation, clarifying the United States' position on the interpretation of certain provisions of the agreement.

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Once the covered agreement takes full effect, it will eliminate collateral and local presence requirements for qualified US reinsurers operating in the EU insurance market and will eliminate the requirement for collateral for qualified EU reinsurers operating in the US insurance market as a condition for their US cedents to take credit for reinsurance. In addition, if, as contemplated by the agreement, US states take appropriate action to establish group capital standards, the covered agreement provides that US insurance groups operating in the European Union will be supervised at the worldwide group level only by the relevant US insurance supervisors, and EU insurers operating in the United States will be supervised at the worldwide group level only by the relevant EU insurance supervisors.

The covered agreement enjoyed strong support from certain insurance industry segments and opposition from others. The National Association of Insurance Commissioners (NAIC) initially opposed it, primarily for failing to provide for formal recognition by the European Union of the United States as a fully equivalent regulatory jurisdiction for Solvency II purposes. Following the July 14 announcement by the US Treasury Secretary and USTR, the NAIC, Treasury, and USTR worked to clarify state regulators' concerns, and the NAIC issued a statement following the September 22 signing that it is pleased that the Treasury and USTR clarified their interpretation in key areas.

This article examines the covered agreement—its genesis, what it does for insurers and reinsurers operating in both the European Union and the United States, its timetable, and the road ahead for implementation.


The Federal Insurance Office Act of 2010 (FIO Act), which was enacted as part of the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank), established the Federal Insurance Office (FIO) within the Department of the Treasury and authorized the US Treasury Secretary and the USTR to negotiate covered agreements with one or more foreign governments or authorities on the recognition of prudential measures with respect to the business of insurance or reinsurance that achieves a level of protection for insurance or reinsurance consumers that is substantially equivalent to the level of protection achieved under state insurance or reinsurance regulation.

The FIO Act also authorizes the preemption of US state insurance measures if the FIO director determines that the state measures are inconsistent with a covered agreement and result in less favorable treatment of a non-US insurer covered by the covered agreement than a US insurer domiciled, licensed, or otherwise admitted in that state.

In the European Union, Solvency II permits the European Commission to make equivalence determinations for third countries with respect to certain areas of prudential regulation. There are three elements that may be deemed equivalent.

  1. Reinsurance—reinsurance contracts concluded with reinsurers in an equivalent jurisdiction will be treated in the same manner as contracts concluded with reinsurers in the European Economic Area (EEA) (i.e., no collateral or local presence requirements will be imposed)
  2. Solvency assessment—an EEA insurance group may calculate the solvency of any non-EU subsidiary in an equivalent jurisdiction using the calculation methods laid down by the equivalent third country where the non-EEA subsidiary is domiciled
  3. Group supervision—insurance groups subject to supervision by a non-EEA supervisor in an equivalent jurisdiction will be exempt from certain Solvency II worldwide group-level supervision requirements.

The US has been granted provisional equivalence with regard to solvency calculations for 10 years from January 1, 2016. However, this primarily assists only European insurance groups that do not need to calculate solvency for US subsidiaries within the group using Solvency II calculations.

Prior to announcement of the covered agreement, US insurers and reinsurers active in Europe had noted that some EU countries were raising barriers on the basis that the United States did not have a regulatory framework that was equivalent to Solvency II, whereas the United States, in comparison, was lowering barriers to non-US reinsurers operating cross-border in the United States. Specifically, US insurers and reinsurers described difficulties with some EU member states' implementation of Solvency II (in particular, Germany, Belgium, Austria, Poland, and to a lesser extent, the United Kingdom), including the need to obtain Solvency II compliance waivers as well as collateral posting and local presence requirements.

In the United States, state insurance laws governing credit for reinsurance have historically required non-US reinsurers to post 100 percent collateral in the United States for risks reinsured from US ceding insurers. Global reinsurers have long complained about the collateral requirements. In 2011, the NAIC adopted amendments to its Credit for Reinsurance Model Law and Regulation (credit for reinsurance models) that allow certain highly rated, non-US reinsurers domiciled in a qualified jurisdiction to reinsure US ceding insurers with reduced collateral. Only four EU jurisdictions have been approved as qualified jurisdictions—France, Germany, Ireland, and the United Kingdom (the list also includes Bermuda, Japan, and Switzerland, which are not EU member states). The reduced collateral requirements of the revised credit for reinsurance models, which have been adopted in some form in approximately 47 US states, are mandatory for all states as of January 1, 2019, under the NAIC's accreditation program.

Against this backdrop, on January 13, 2017, the US Treasury Secretary, the USTR, and the European Commission announced the successful completion of the covered agreement involving three areas of prudential insurance oversight: reinsurance, group supervision, and exchange of information among supervisors.

The covered agreement was the result of more than 1 year of negotiations that were notified in advance to the US Congress by the FIO and the USTR on November 20, 2015. Similarly, the European Council had previously directed the European Commission to negotiate an agreement with the United States.

What the Covered Agreement Does for Insurers and Reinsurers

Broadly, the covered agreement:

  1. Eliminates local US/EU requirements for reinsurers to post collateral or have a local presence (either as a requirement for the reinsurance placement or as a condition for receiving financial statement credit for the reinsurance);
  2. Clarifies that an insurance or reinsurance group will be subjected to worldwide group supervision only in its "home" jurisdiction and not in other jurisdictions where it operates; and
  3. Sets forth practices to be encouraged for cooperation in the exchange of information among EU and US regulators.

There are important conditions attached to these provisions that have practical implications for when they take effect and what insurers and reinsurers must do.

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The covered agreement provides a major benefit to reinsurers operating cross-border between the United States and the European Union that are currently required to post full or partial collateral or establish a physical presence. Under the covered agreement, all collateral requirements for US-EU cross-border reinsurance would be eliminated. EU reinsurers that currently benefit from the reduced collateral regime available for US certified reinsurers will no longer have to be from a qualified jurisdiction and will no longer be subject to the ratings-linked tiering percentages of the revised credit for reinsurance models.

However, conditions apply. Many are the same conditions for certified reinsurers under the revised credit for reinsurance models. Conditions for reinsurers that can automatically confer credit for reinsurance include a $250 million minimum capital and surplus requirement,1 periodic financial reporting, maintaining a practice of prompt payment of reinsurance claims, agreeing to notify the host jurisdiction of regulatory actions, agreeing not to participate in any solvent schemes of arrangement involving the host jurisdiction's ceding insurers without posting full collateral, and agreeing to fully collateralize all reinsurance for cedents in receivership upon request. Importantly, the covered agreement, like the revised credit for reinsurance models, is available only for new and renewal business or newly amended contracts involving only prospective, not retroactive, reinsurance. This means that even following full implementation, different rules will continue to apply to similar arrangements entered into in prior years.

Reinsurers and cedents should consider carefully the conditions and the relative risks of failing to meet them. This may mean that parties look to ensure that the practical arrangements are in place to monitor compliance with the conditions and contingency plans for collateral in the event that the requirements are no longer met.

Finally, it is important to note that the covered agreement applies to US-EU cross-border reinsurance and does not affect cedents and reinsurers operating from or in other countries. The revised credit for reinsurance models will, therefore, continue to apply to such reinsurance subject to possible further revisions of the credit for reinsurance models currently proposed by the NAIC Financial Condition (E) Committee to extend the covered agreement collateral provisions to reinsurers domiciled in NAIC qualified jurisdictions other than within the European Union under specified circumstances.

Group Supervision

The covered agreement introduces the concepts of "home" and "host" jurisdictions whereby an insurance or reinsurance group's "home" jurisdiction is where the worldwide parent of the group has its head office or is domiciled, whereas a "host" jurisdiction is where the group has operations other than its home jurisdiction. The covered agreement provides, however, that authority over worldwide group supervision is limited to the home jurisdiction only if the home jurisdiction has certain regulatory tools in place.

In particular, groups are exempted from group capital requirements in the host jurisdiction only if the home jurisdiction applies a group capital assessment capturing risk at the level of the entire group, which may affect the insurance or reinsurance operations and activities in the other party's territory, and has the authority to impose preventive and corrective measures based on such assessment, including requiring "capital measures," where appropriate. There is no current authority in the United States for the imposition of group capital assessments by state insurance regulators, or direct authority to require "capital measures" at the group level, and these would need to be developed by the states (or imposed by the federal government) in order to give full effect for US companies to take advantage of the exemption from the host jurisdiction group capital requirements. The NAIC formed a Group Capital Calculation (E) Working Group in 2016, which has been charged with constructing a US group capital calculation using a risk-based capital aggregation methodology. Its work is ongoing.

Despite the covered agreement's limitation of worldwide group supervision to the home jurisdiction of the insurance or reinsurance group, the host jurisdiction nevertheless continues (1) to be permitted to exercise group supervision at the level of a parent company within its territory, (2) to receive Own Risk and Solvency Assessment (ORSA) summary reports, (3) to impose preventive or corrective measures with respect to insurers or reinsurance in the host jurisdiction if the ORSA summary exposes any serious threat to policyholder protection or financial stability, (4) to impose group reporting that directly relates to the risk of a serious impact on the ability of the group to pay claims, and (5) to request and obtain information where deemed necessary to protect against serious harm to policyholders or a serious threat to financial stability.

Timetable for Implementation

The covered agreement entered into force on April 4, 2018, following the exchange of written notifications certifying that the parties had completed their respective internal requirements and procedures. With regard to the European Union, such internal requirements and procedures required approval of the covered agreement by both the European Council (March 20, 2018) and the European Parliament (March 1, 2018). With regard to the United States, the FIO Act required submission to certain enumerated congressional committees. This submission took place on January 13, 2017, at the time of the announcement of the concluded negotiation of the covered agreement. The covered agreement may be terminated at any time with 180 days' notice by written notification, following a mandatory consultation process.

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Certain requirements relating to group supervision applied on a provisional basis from November 7, 2017 even before the agreement entered into force. Specifically, and primarily with a view of limiting the application of Solvency II requirements to US insurance groups pending full implementation of the covered agreement, the European Union agreed to "ensure" that supervisory authorities follow its group supervision provisions, while the United States agreed to "encourage" supervisory authorities to follow such provisions. The European Union is required to begin applying the elimination of local presence requirements by September 22, 2019 (i.e., within 24 months of signing).

The reinsurance collateral reduction elements of the covered agreement are to be fully implemented by September 22, 2022 (i.e., within 5 years of signing), but the United States is required to encourage states to adopt phase-in provisions for the gradual elimination of collateral requirements (a 20 percent annual reduction from current levels). Furthermore, the FIO Director is to begin evaluating US state insurance laws and regulations for preemption by March 1, 2021, prioritizing those states with the highest volume of gross ceded reinsurance, and complete any necessary preemption determinations by September 1, 2022.

The reinsurance provisions are not self-implementing and require legislation or new rules by the US states, which state insurance regulators are seeking to quickly develop in order to avoid federal preemption of state regulation. Similarly, EU member states will need to revise their Solvency II implementing legislation, regulations, and procedures to the extent they are not compatible with the objectives of the covered agreement. On June 21, 2018, the NAIC Reinsurance (E) Task Force exposed proposed revisions (see the article, titled "The NAIC Continues Work on the US-EU Covered Agreement")to the credit for reinsurance models that are intended to address the reinsurance collateral provisions of the covered agreement. The NAIC is targeting adoption of the proposed revisions by the end of 2018. It will then fall to the individual states to implement the necessary changes to their respective credit for reinsurance laws and regulations.

  1. Under the covered agreement, this may be calculated according to the methodology of the home jurisdiction rather than US generally accepted accounting principals (GAAP) or international financial reporting standards with a GAAP reconciliation under the revised credit for reinsurance models.

September 24, 2018