Select Committee on Merits of Statutory Instruments Eighth Report


APPENDIX 2: EXPLANATORY INFORMATION


SI 2005/1998  Insurers (Reorganisation and Winding Up) (Lloyd's) Regulations 2005

Paper submitted on behalf of over 5,000 Ex-Lloyd's Names

1)  SI 2005/1998 implements the Insurance Reorganisation and Winding-up Directive 2001/17/EC ('the Directive') in respect of the Lloyd's of London insurance market. It amends SI 2004/353, which implemented the Directive in respect of other UK insurers. The Directive aims to ensure that reorganisation measures or winding-up proceedings affecting an insurer are recognised in all Member States without further formality, and to ensure priority for insurance creditors over other claims.

2)  SI 2005/1998 was laid before Parliament on the 20th July (the day before the Summer Recess began) and it came into force on 10 August 2005 under the negative resolution procedure. It enables the Financial Services Authority ("FSA") and/or the Society of Lloyd's to ask the Court to make a Lloyd's Market Reorganisation Order ("LMRO") if Lloyd's might not meet its regulatory solvency requirements under the Financial Services and Markets Act 2000 ("FSMA"). Under an LMRO, a Court-appointed reorganisation controller will devise a market reorganisation plan in liaison with the FSA and initiate insolvency proceedings against Names and former Names who are unable to meet their insurance liabilities. Insurance creditors in such proceedings would have priority over unsecured creditors in respect of Names' assets.

3)  The ex-Lloyd's Names claim that implementation of the Directive by means of SI 2005/1998 is unjust and disproportionate for the following reasons:

  3.1)  SI 2005/1998 makes considerable changes to insolvency law by means of delegated legislation which has not been debated in Parliament. The fact that it was laid on 20 July 2005, just before the summer recess, precluded debate before it came into force. The Treasury has admitted, in its Consultation Paper of December 2004, that their proposals "entail more changes to existing practices than was the case for the main regulations" - Executive Summary.

  3.2)  SI 2005/1998 threatens to facilitate or accelerate the insolvency of some thousands of ex-Lloyd's Names, whose average age is now over 80. In these circumstances, it was unjust to publish the consultation document relating to this legislation only on H.M. Treasury's website, a technology inaccessible to most such former Names; to make matters worse, they failed to publicise this in the printed media.

  3.3)  SI 2005/1998 operates retroactively, as an LMRO can impact upon underwriting losses incurred prior to the coming into force on August 10, 2005. This is offensive because Names (through Lloyd's failures) were made liable for undisclosed losses and liabilities, together with non-existing reserves across the market, which Lloyd's knew about before the Names joined Lloyd's. Unfairness is increased by Regulation 8 (12) (a) whereby the Society becomes sole arbiter of an "approved debt" that the Court of Appeal has found as a fact to be unaudited. (Footnote 1)

  3.4)  Regulations in SI 2005/1998 contain a moratorium on new or ongoing legal proceedings against a former Name or the Society of Lloyd's. This limits or removes the ability of Lloyd's Names to challenge insolvency proceedings brought against them by the Society of Lloyd's. (Footnote 3 and 4) Whilst the Directive leaves it up to Member States how to deal with ongoing proceedings, if reorganisation measures or unwinding proceedings are initiated, the UK has done so in a way that is manifestly unfair.

  3.5)  An LMRO would force secured creditors to foreclose by application and permission of the Court, and may impel lenders to review lending criteria or withdraw liquidity from a Name, or his business, or from the general financial Market. Property values could suffer if a substantial number are caught by an LMRO.

4)  The new S.I. reinstates, reinforces and exacerbates the serious injustices already suffered by Ex-Lloyd's Names as a result of the denial of any legal remedy. There is a long history to this dispute which goes back to the controversial Lloyd's Act 1982 which granted statutory immunity for Lloyd's under s.14 of the Act. As a quid pro quo, Lloyd's undertook to Parliament to maintain Errors & Omissions insurance cover (akin to professional indemnity insurance) to protect Names at all times. (Undertaking in continual breach since 1991).

  4.1)  While the Merits Committee may not wish to explore the details of this history, as indicated in Footnote 1, Members should be aware that SI 2005/1998 will, if implemented as presently introduced, make the situation much worse for the ex-Lloyd's Names than otherwise would be the case. In particular, the moratorium effected by Regulation 8 blocks defences and Appeals such as those currently pending in the Court of Appeal, and unjustly removes their legal rights to defend themselves in a British Court. (Footnote nos. 2, 3 and 4 below refer) There does not appear to be anything in the Directive which requires the UK Government to include an all-embracing moratorium of the kind contained in Regulation 8.

5)  Unlimited liability Names will become liable for the losses of limited liability Names. All losses (notably from escalating asbestosis claims) which cannot be paid by Equitas (the reinsurance vehicle into which all Names were forced to reinsure their 1992 and prior liabilities in 1996) will be claimed from the Lloyd's Central Fund. The limited liability Names and companies at Lloyd's can walk away from an insolvent market forcing the unpaid losses of the limited liability Names upon those Names who will be bound by an LMRO and cannot walk away. It would be a manifest injustice if unlimited liability Names have to subsidise the limited liability Names; yet that could be one effect of the S.I.

6)  The Explanatory Memorandum wrongly claims Statutory Instrument 2005/1998 is necessary because the Society has no legal status. Section 2 of the Lloyd's Act 1871 states that :- " ....... and all persons admitted as members of Lloyd's before or after the passing of this Act, are hereby united into a Society and Corporation for the purposes of this Act, and for those purposes are hereby incorporated by the name of Lloyd's, and by that name shall be one body corporate with perpetual succession and a common seal, and with power to purchase, take, hold, and dispose of lands and other property (which incorporated body is hereinafter in this Act referred to as the Society)." The Society's legal status as a 'one body corporate' and its personality was reconfirmed in s.2 (1) Lloyd's Act 1982.

7)  Given its huge impact on the lives of thousands of ex-Names, it is suggested that S.I 2005/1998 should be withdrawn and re-submitted with amendments, and then fully debated in both Houses. At the very least this SI should be debated at an early opportunity; it is understood that at least one Peer is ready to table a Prayer to annul the Order.

8)   If the S.I. were amended to provide an express exemption - as appears to be allowed in the Directive - to cover Ex-Lloyd's Names, that would go a long way to solve the problem. This might be expressed to provide that an LMRO will not apply to all members reinsured into Equitas but be limited to those members who ceased underwriting by 31 December 1996 and such category of members be excluded from the Order in accordance with Regulation no. 7. (See Footnote 5.)

Sir William Jaffray

2nd September 2005

Footnotes.

1)  In Jaffray & Ors. v. Society of Lloyd's, the Court of Appeal held that: "In short, throughout the relevant period the system did not involve the making of a reasonable estimate of outstanding liabilities including unknown and unnoted losses. It follows that the answer to the question posed at paragraph 344 above, namely whether there was in existence a rigorous system of auditing which involved the making of a reasonable estimate of outstanding liabilities, including unknown and unnoted losses, is no. Moreover, the answer would be no even if the word 'rigorous' were removed. The first representation which we found to exist in paragraph 321 above is therefore untrue" [2002] EWCA Civ 1101, 26 July 2002, paragraph 376.

2)  Society of Lloyds' v. Henderson & Ors. (pending CA A3/2005/1755)

3)  Society of Lloyd's v. Mrs. H. M. Adams (pending CA A3/2005/1270)

4)  Human Rights infringement : Notably, the peaceful enjoyment of property enshrined in Article 1 Protocol 1 of the European Convention on Human Rights, incorporated into the Human Rights Act 1998.

5)  For the avoidance of doubt, the recommendation at 8) is that all Names who ceased underwriting by, on, or before 31 December 1996 should be excluded from the Order, in accordance with Regulation no. 7.

Paper submitted by HM Treasury

This paper relates to the Insurers (Reorganisation and Winding Up) (Lloyd's) Regulations 2005 (S.I. 2005/1998), which implement the Insurance (Reorganisation and Winding Up) Directive 2001/17/EC in respect of the Lloyd's of London market.

This Directive was implemented for all other insurers by the Insurers (Reorganisation and Winding Up) Regulations 2004 (S.I. 2004/353) ("the principal regulations"). The complexities of the Lloyd's market demanded that further adaptation to and refinement of the principal Regulations be made to give effect to the requirements of the Directive in respect of the Lloyd's market.

HM Treasury worked closely throughout the implementation process with the Financial Services Authority and the Society of Lloyd's. Draft proposals were published in a public consultation document on the Treasury website in December 2004 in line with Cabinet Office guidance. All comments made during the consultation were considered carefully and some amendments were subsequently made to the draft Regulations.

The final Regulations were laid before Parliament on 20 July 2005 as secondary legislation, using the negative resolution procedure. The Regulations came into force on 10 August 2005.

The Treasury regrets that the Regulations could not be made earlier. Consultation on these complex regulations ended in March and a number of drafting comments were received. There was also discussion with the European Commission as to whether the Regulations effectively transposed the Directive. Considerable resource was devoted to finalising these Regulations. The decision to table the Regulations as early as possible was made in the light of positive consultation comments and against the background of advanced infraction proceedings by the European Commission for late implementation of the Directive.

Concerns were raised with the Treasury about the draft Regulations by some individuals after the formal consultation period. The Treasury made it clear that they were prepared to consider further comments and invited such. No comments on the Regulations were received other than general concerns relating to the Directive and a number of unconnected issues. The Treasury tried to address various misunderstandings about the purpose and effect of the Regulations through correspondence and the publication of a Question & Answer Guide to the Regulations. A copy of this guide is attached at Annex.

Purpose and scope of Directive

The purpose of the Directive is to establish rules on the adoption of reorganisation measures and winding-up procedures for insurance undertakings across the EU for the proper functioning of the internal market and the protection of creditors. The key objective of the Directive is to ensure that reorganisation measures or winding-up proceedings affecting an insurer are recognised in all Member States without further formality or additional checks by other competent authorities beyond those in the home Member State.

The Directive is intended to apply to all undertakings writing direct insurance, including the 'association of underwriters known as Lloyd's'. The Directive bites on Lloyd's only in respect of this entity, recognised in European Community law for the purposes of EU legislation. Under section 4 of the Lloyd's Act 1911, the objects of the Society include "the carrying on by Members of the Society of the business of insurance of every description including guarantee business" but do not include the carrying on of insurance business by the incorporated Society. The association treated in Community legislation as an insurance undertaking is therefore not the Society incorporated by Lloyd's Acts 1871 to 1982.

The main misunderstandings in relation to the Regulations are:

  • that Names will not be able to pursue any legal proceedings as a result of the moratorium arising from any Lloyd's Market Reorganisation Order (LMRO):

The moratorium is an essential mechanism of the LMRO for ensuring that the position of all market participants can be reviewed simultaneously, and as quickly as possible. It does not in any way remove the legal rights of Names; it only freezes proceedings by or against participants until such a time as the moratorium is lifted. The Treasury would emphasise that the moratorium also works the other way around i.e. in respect of creditors pursuing Names for debts.

  • that the Treasury made a policy choice to include former Names, although this was not a requirement of the Directive:

Excluding former Names reinsured into Equitas would not have correctly implemented the Directive. The Directive applies in respect of insurance commitments that have already been undertaken. As such, former members with outstanding liabilities under contracts of insurance written by syndicates on which they have previously participated are necessarily caught within the scope of the Directive. The UK is therefore bound to transpose this aspect in its implementing legislation.

  • that unlimited liability Names would, in the case of an LMRO, have to essentially subsidise the outstanding claims of limited liability Names:

Each Name is liable only in respect of those insurance policies he has underwritten. In so far as contributions to and from the Central Funds are concerned, in the event of an LMRO, these Regulations do not alter, in respect of any member, either the manner in which the Central Funds may be used or that in which contributions are raised from Members.

  • that the Regulations give the FSA and/or Lloyd's the power to sequestrate Names' assets:

The Regulations give power to both the FSA and the Society of Lloyd's to apply to the Courts for the making of an LMRO and for the appointment of a Reorganisation Controller. In the event that a Name then proved unable to pay his debts and thus became subject to the priority provisions of the Regulations, priority over the Name's unencumbered assets would arise within the insolvency procedures (whether instituted by the Name, his creditors or the Reorganisation Controller). As such, neither the Reorganisation Controller, nor the FSA, nor Lloyd's, would have the power to "sequestrate" assets. The Reorganisation Controller, as an officer of the Court, has no special responsibility to the FSA or Lloyd's and would act independently of both within the frame provided by the LMRO.

HM Treasury

1 Horse Guards Road London SW1A 2HQ

Question & Answer Guide

Q. What is the purpose of these Regulations?

A. These Regulations implement the EU Insurers Reorganisation and Winding-Up Directive (2001/17/EC) into UK law. This Directive creates rules at the EU level with regard to insurance undertakings that are subject to reorganisation measures or winding-up proceedings. The Directive provides that these measures or proceedings may be established or opened only in the home Member State of an insurance undertaking and that those measures or proceedings will be recognised and have effect throughout the EU.

The principal purposes of the Directive are to simplify proceedings when an EU insurance undertaking is in financial difficulties. It does this by requiring procedures for the reorganisation or distribution of assets; the co-ordination of reorganisation and winding-up arrangements across Member States though mutual recognition; and ensuring that all EU creditors are treated equally.

The Directive was implemented in respect of all other insurers in the UK by the Insurers (Reorganisation and Winding-up) Regulations 2003 and 2004. These new Regulations now give effect to the Directive in respect of the Lloyd's market as well.

Q. Why do these Regulations have to be made?

A. The UK has an obligation under European Communities' Act 1972 to implement EU law into domestic legislation. Non-compliance with this obligation is a breach of a Member State's treaty obligations and can lead to the Commission launching infraction proceedings against that Member State. This Directive was negotiated by all Member States for the benefit of the whole insurance market across the EU. These Regulations constitute completion of the UK's obligation in respect of transposition of this Directive into domestic law.

Q. How do the Regulations work?

A. Reorganisation measures and winding-up or bankruptcy procedures already apply to persons who are members of Lloyd's under the general law. By contrast, there is no legal mechanism for the co-ordinated application of reorganisation measures and winding-up procedures to the Lloyd's market as a whole. The regulated 'insurance undertaking' for the purposes of the insurance directives, the "association of underwriters known as Lloyd's", has no legal personality in any other context and has no legal status in the UK.

These Regulations provide the necessary link between the association and the persons and entities within the Lloyd's market that have legal personality. In some circumstances the reorganisation or insolvency of an underwriting member is to be treated as falling within the ambit of the Directive and not the Insolvency Regulation, which otherwise will continue to apply to insolvencies of particular members rather than to the association as a whole. These circumstances will arise in the event that the following conditions are met:

  • the Lloyd's market does not meet its regulatory solvency test;
  • a Lloyd's market reorganisation order is in force;
  • the member is not excluded from that order;
  • the court is not satisfied that it is likely that the insurance market debts of the member will be satisfied.

In such a case, reorganisation measures and winding up proceedings must be operated according to the 2004 Regulations as adapted by these Regulations.

Q. What consultation has taken place in relation to these Regulations?

A. HM Treasury has worked closely with the FSA in the course of drafting these Regulations to ensure that they offer the most effective means of complying with the UK's obligation to implement the EU Directive, whilst at the same time offering appropriate protection to both policyholders and Names themselves. The consultation document for these Regulations, as with all HM Treasury consultation documents, was published on HM Treasury's public website. The Regulations were widely available to the public for the duration of the 13-week consultation period that ended on 11 March 2005. Any individual wishing to view and comment on HM Treasury's proposals was entirely at liberty, indeed was encouraged, to do so. A feedback statement on the consultation responses was published together with the Regulations on HM Treasury's public website on 21 July 2005.

Q. In what circumstances could a Lloyd's market Reorganisation Order (LMRO) be sought?

A. A Court can make an LMRO upon application by the Society of the FSA, in the event that it appears that the regulatory solvency margin imposed by FSA rules is not or may not be met, and the order is likely to meet one of both of its defined objectives. The objectives of the order will be to preserve or restore the financial situation of, or market confidence in, the association of underwriters known as Lloyd's in order to facilitate the carrying on of insurance market activities by members at Lloyd's, or to assist in achieving an outcome that is in the interests of creditors of members and insurance creditors in particular. The reorganisation order will specify the persons to which it will apply.

Q. Do you intend to use these Regulations shortly?

A. No. The ability to seek an order only becomes usable in the event that the Lloyd's market does not, or appears unlikely to, meet its regulatory solvency requirements. The ultimate decision to grant an order is at the discretion of the Courts.

Q. Do the Regulations facilitate the provisions of the Fairness in Asbestos Injury Resolution (FAIR) Bill in the United States?

A. No. There is no connection between the FAIR Bill and these Regulations. These Regulations constitute the UK's transposition of European Directive 2001/17 into domestic legislation in respect of Lloyd's. The Regulations arise from the UK's obligation under the European Communities' Act 1972 to comply with all EU law. EU law is independent of US law and, as such, the FAIR Bill has had no bearing on the making of these Regulations.

Q. Why was it necessary to have separate Regulations for Lloyd's if as you say these Regulations do for Lloyd's what the earlier Regulations did for all other UK insurers?

A. There were difficult issues over how to apply the provisions of the Directive to the Lloyd's market, which has unique features not found in other European insurers. These differences meant that further complex adaptation and refinement of the earlier Regulations were required. HM Treasury consulted on its proposed approach in 'Implementation of the insurers reorganisation and winding-up directive for Lloyd's - A consultation document', published in December 2004.

Q. Do these Regulations enable the FSA to sequestrate Names' assets?

A. No. The Regulations give power to the FSA, along with the Society of Lloyd's, to apply to the Courts for the making of a Lloyd's Market Reorganisation Order and for the appointment of a Reorganisation Controller. In the event that a Name then proved unable to pay his debts and thus became subject to the priority provisions of the Regulations, priority over the Name's unencumbered assets would arise within the insolvency procedures (whether instituted by the Name, his creditors or the Reorganisation Controller). As such, neither the Reorganisation Controller, nor the FSA, would have the power to "sequestrate" assets. The Reorganisation Controller, as an officer of the Court, has no special responsibility to the FSA and would act independently of it within the frame provided by the LMRO. "Sequestration" as used in the Regulations refers only to certain bankruptcy related proceedings in Scotland under the Bankruptcy (Scotland) Act 1985.

Q. Is the Lloyd's Market Reorganisation Order the trigger for granting priority to insurance creditors over other unsecured creditors?

A. No. The LMRO provides for the imposition of a moratorium and the application of the Insurers (Reorganisation and Winding-Up) Regulations 2003 and 2004 to all involved Names. The moratorium will not act to prevent the enforcement of security held by lenders. The possibility for priority to be established over Names' unencumbered assets (members' mortgages or other secured borrowing are not affected) is one of several provisions that may or may not arise from this situation, and is dependent on the ability or otherwise for each individual Name to meet his financial obligations. The LMRO provides the framework within which the provisions of the Regulations are able to operate, should they be required to do so. As such, the LMRO is therefore not in itself the trigger event; rather, it is the inability or likely inability of particular Names caught within the scope of the LMRO to pay their debts. Members may also apply to the Court to be excluded from the scope of any LMRO if they are able to demonstrate that they can meet all of their insurance debts and they would consequently not be subject to the priority provisions at all.

Q. Will Names' existing loans or mortgages take second place to debts owed by Names to their insurance creditors?

A. No. Where a lender has security under the terms of the loan over particular assets of the Name he will remain able to enforce that security, for instance by taking steps to exercise a power of sale under a mortgage, in order to obtain repayment of the amount owed to him.

Q. Are the provisions in the Regulations retrospective?

A. Yes. The Directive affects all insurers by making all reorganisation measures and winding-up procedures that take place after 20 April 2003 subject also to the provisions contained within the Directive. All insurance claims whenever instituted on policies covered by an insurer subject to such measures or proceedings are therefore affected. In the case of Lloyd's, only at the point of the making of an LMRO would this retrospective aspect take effect with regard to a particular member who proved unable to meet his financial obligations to his creditors.

Q. Is it correct that the Regulations apply to all Names, past and present?

A. Yes. Given that the provisions of the Directive affect potentially all outstanding insurance liabilities whenever they arise or arose, the Regulations must apply to all Names not excluded from the LMRO. This is the case whether the Name in question is a current or a former member.

Q. How will these Regulations affect Names reinsured into Equitas?

A. As a reinsurance company, Equitas itself does not directly fall within the scope of the Directive, which relates only to direct insurance undertakings. Only in the event that there were a wider Lloyd's market failure so serious as to call into question the adequacy of the Society's Central Fund or if, in the particular circumstances surrounding a failure of Equitas, there were to be consequences which jeopardised the ability of the Lloyd's market to pass its regulatory solvency tests, would these Regulations come into effect in relation to Equitas. In such a scenario, Equitas Reinsured Names could be caught within the scope of an LMRO. The Regulations do not, in the event of the insolvency of Equitas, have the effect of mutualising losses, or of altering the relationship between Equitas and those Names reinsured by it.

Q. Did Lloyd's instigate the provisions of these Regulations?

A. No. European Directive 2001/17 was adopted by the European Parliament and the Council of the European Union on 19 March 2001, following a proposal from the European Commission published in 1989. These Regulations implement this Directive into domestic legislation in the UK for the benefit of the entire EEA insurance market. The Directive was negotiated by, and for the benefit of, all Members States, and, as such, it does not in any way arise from, or apply exclusively to, Lloyd's, but rather to every insurance undertaking across the EEA.


 
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