Insurance Capital Standard Online Tool

The current estimate corresponds to the probability-weighted average of the present values of the future cash flows associated with insurance liabilities, discounted using the yield curve relevant for the currency and bucket of each liability. The three buckets to which liabilities can be allocated are described in section 3.2.5.3.

The current estimate does not include any implicit or explicit margins.

Reinsurance recoverables are included in a way that is consistent with the current estimates of insurance liabilities, based on the same assumptions and inputs.

When valuing insurance liabilities, no adjustment is made to take into account the IAIG’s own credit standing.

More details on how to project cash flows for the current estimate calculation are provided in the Level 2 text.

A contract is recognised when the IAIG becomes a party to that contact, until all obligations related to that contract are extinguished. All contracts that are recognised at the valuation date, and only those, are taken into account for the current estimate calculation.

The future premiums and associated claims and expenses linked to those recognised contracts are taken into account up to each contract boundary.

The projection horizon used in the calculation of the current estimate covers the full lifetime of all the cash in- and out-flows required to settle the obligations (within contract boundaries) related to recognised insurance and reinsurance contracts at the valuation date.

The details for contract recognition and contract boundaries are specified in the Level 2 text.

A contract is recognised and valued as soon as the IAIG becomes party to that contract, without any possibility to amend or cancel it, even when the insurance coverage has not yet started.

A contract is derecognised when all possible claims linked to this contract have been completely settled, and all future cash flows are nil.

Only those contracts recognised at the reporting date are taken into account in the current estimate calculation; in particular, no future business is included in the calculation.

All obligations, including future premiums, relating to a recognised contract are taken into account in the current estimate cash flow projection. However, future premiums (and associated claims and expenses) beyond either of the following dates are not considered, unless the IAIG can demonstrate that it is able to and willing to compel the policyholder to pay the premiums:

1. The future date where the IAIG has a unilateral right to terminate the contract or reject the premiums payable under the contract; or
2. The future date where the IAIG has a unilateral right to amend the premiums or the benefits payable under the contract in such a way that the premiums fully reflect the risks.

For group policies, similar rules apply. If premiums can be amended unilaterally for the entire portfolio in a way that fully reflects the risks of the portfolio, the second condition above is considered to be met.

The calculation of the current estimate is based on up-to-date and credible information and realistic assumptions. The determination of the current estimate is objective, comprehensive, and uses observable input data.

The requirements relating to data quality and modelling assumptions are specified in the Level 2 text.

When selecting data for the calculation of the current estimate, the IAIG considers:

1. The quality of data based on the criteria of accuracy, completeness and appropriateness;
2. The use and setting of assumptions made in the collection and processing of data; and
3. The frequency of regular updates and the circumstances that trigger additional updates.

When only limited or unreliable data are available from the IAIG’s own experience, the IAIG supplements its own data with data from other sources. When the characteristics of the portfolio differ from those of the population represented in the external data used, the external data are adjusted in order to ensure consistency with the risk characteristics of the IAIG’s portfolio.

The assumptions used to calculate the current estimate reflect current expectations based on all information available. This requires an assessment of expected future conditions, in particular as soon as:

1. There is evidence that historical trends will not continue, that new trends will emerge or that economic, demographic and other changes may affect the cash flows that arise from the existing insurance contracts.
2. There have been changes in underwriting procedures and claims management procedures that may affect the relevance of historical data to the portfolio of insurance contracts.
3. Historical data do not capture types of events that may have an impact on the current estimate.

The current estimate calculation may recognise management actions when such actions are objective, realistic and verifiable. Management actions recognised in the calculation are not contrary to contract boundaries, to the IAIG’s obligations to policyholders or to legal provisions applicable to the IAIG.

Further details regarding the recognition of management actions in the current estimate calculation are provided in the Level 2 text.

Assumed future management actions are consistent with the IAIG’s current business practice and business strategy unless the GWS is satisfied that there is sufficient evidence that the IAIG will change its practices or strategy.

When calculating the current estimate, future management actions are taken into account only if they can reasonably be expected to be carried out under the specific circumstances to which they apply.

The assumptions about future management actions take into account the time needed to implement them, as well as any resulting incremental expenses and changes in policyholder behaviour.

The MOCE is a margin added to the current estimate of insurance obligations in order to achieve a market adjusted value of insurance liabilities. As such, MOCE covers the inherent uncertainty in the cash flows related to insurance obligations. As such, MOCE considers all uncertainties attached to these obligations.

The MOCE is calculated as a given percentile of the normal distribution characterised by:

• A mean equal to the current estimate of life (and non-life) obligations; and
• A 99.5% percentile equal to the life (and non-life) risk charge.

The percentiles for life and non-life insurance normal distributions are specified in the Level 2 text.

The 85th percentile is used to compute the life component of the MOCE and the 65th percentile is used for the non-life component.

All stress-based calculations include only current estimates for determining the pre- and post-stress Net Asset Value (NAV), ie the MOCE remains constant during the stress. Factors applied to insurance liabilities are only applied to current estimates. MOCE is neither deducted from the ICS capital requirement, nor added to qualifying capital resources.

Financial instruments that meet all of the following criteria qualify as Tier 1 Unlimited capital resources:

1. The instrument is fully paid-up.
2. The instrument is in the form of issued capital such that it is the first instrument to absorb losses as they occur.
3. The instrument represents the most subordinated claim in a winding-up of the IAIG where the holder has a claim on the residual assets proportional to its share of the issued share capital after all other claims have been repaid, and which is not subject to a fixed or capped amount.
4. The instrument is perpetual (ie it does not have a maturity date).
5. The principal amount of the instrument is not repaid outside winding-up, other than by means of discretionary repurchase permitted under national law.
6. There is not an expectation created by the IAIG at issuance, through the terms of the instrument or otherwise, that the IAIG will repurchase or cancel the instrument.
7. There are no circumstances under which a distribution is obligatory (non-payment of a distribution is, therefore, not an event of default).
8. Distributions are paid out of distributable items, including retained earnings.
9. The instrument is neither undermined nor rendered ineffective by encumbrances. In particular, the priority of claims is not compromised by guarantees or security arrangements given by either the IAIG or a related entity over which the IAIG exercises control or significant influence, for the benefit of investors.
10. Neither the IAIG nor a related entity over which the IAIG exercises control or significant influence has purchased the instrument, nor has the IAIG directly or indirectly funded the purchase of the instrument.
11. The paid-in amount is recognised as equity capital (ie is not recognised as a liability) where a determination that liabilities exceed assets constitutes a test of insolvency.

Financial instruments that do not qualify as Tier 1 Unlimited capital resources, but meet all of the following criteria, qualify as Tier 1 Limited capital resources:

• a. The instrument is fully paid-up.
• b. The instrument is subordinated to policyholders and other non-subordinated creditors and holders of Tier 2 financial instruments but may rank senior to holders of Tier 1 unlimited financial instruments.
• c. The instrument is perpetual (ie it does not have a maturity date). For mutual IAIGs⁹, the requirement for an instrument to be perpetual is considered to be met if redemption at maturity (for a dated instrument) can be deferred subject to supervisory approval or a lock-in¹⁰ feature, and where an instrument has an initial maturity of at least ten years.
• d. The instrument does not contain any incentive to redeem, such as a step-up.
• e. The instrument is only callable at the option of the issuer after a minimum of five years from the date of issue and prior supervisory approval is required for any redemption. By way of derogation, call options, the exercise of which may take place in the first five years, may be permitted only in the following two situations:
  • Tax and regulatory event call options, the exercise of which is subject to prior supervisory approval, and provided the IAIG was not in a position to anticipate such exercise at the time of issuance. Before granting approval, the supervisor ensures that after redemption of the instrument, the IAIG will cover its ICS capital requirement with a margin sufficient to ensure that the ICS will not be breached over the foreseeable future, taking into account any relevant trend and specificities of the IAIG.
  • Other call options, provided that their exercise complies with all of the following:
    • Prior to or concurrent with the exercise of the call, the IAIG replaces the called instrument with capital of the same or better quality, and the replacement of the called instrument is made on terms that are sustainable for the income capacity of the IAIG;
    • The IAIG demonstrates to the satisfaction of the supervisor that the call is economic; and
    • The call is approved by the supervisor.

    When assessing whether the call is economic, the supervisor ensures that the cost of issuing the replacement instrument is lower than the cost of keeping the existing instrument outstanding. This analysis may consider various scenarios including, but not necessarily limited to, comparative spread levels and issuance volume.

• f. The instrument may be repurchased by the issuer at any time with prior supervisory approval.
• g. There is not an expectation created by the IAIG, through the terms of the instrument or otherwise, that the IAIG will repurchase the instrument or exercise any right to call the instrument, or that the repurchase or redemption will receive supervisory approval.
• h. The IAIG has full discretion at all times to forego or cancel distributions (ie dividends and coupon payments are non-cumulative). The IAIG’s obligation to pay missed distributions is forever extinguished and non-payment is not an event of default.
• i. Distributions are paid out of distributable items, including retained earnings.
• j. The instrument does not have distributions that are linked to the credit standing or financial condition of the IAIG or a related entity, such that those distributions may accelerate winding-up.
• k. The instrument is neither undermined nor rendered ineffective by encumbrances. In particular, the priority of claims is not compromised by guarantees or security arrangements given by either the IAIG or a related entity over which the IAIG exercises control or significant influence, for the benefit of investors.
• l. Neither the IAIG nor a related entity over which the IAIG exercises control or significant influence has purchased the instrument, nor has the IAIG directly or indirectly funded the purchase of the instrument.
• m. The paid-in amount is recognised as equity capital (ie is not recognised as a liability) where a determination that liabilities exceed assets constitutes a test of insolvency.
• n. The instrument does not possess features that hinder recapitalisation, such as provisions that require the issuer to compensate investors if a new instrument is issued at a lower price during a specified time frame.
• o. If the instrument is not issued out of an operating entity or the holding company of the IAIG (eg it is issued out of an SPV), proceeds are made immediately available, without limitation, to an operating entity or the holding company of the IAIG, through the issuance of an instrument that meets or exceeds all of the other criteria for inclusion in Tier 1 limited capital resources (ie the SPV may only hold assets that are intercompany instruments issued by the IAIG or a related entity with terms and conditions that meet or exceed the criteria for Tier 1 limited capital resources).

⁹ Characteristics of a mutual group typically include the inability to issue substantial amounts of common equity and an ultimate parent within the group that cannot issue common equity.
¹⁰ A lock-in feature is a requirement for the IAIG to suspend repayment or redemption if it is in breach of its applicable regulatory capital requirement or would breach it if the instrument is repaid or redeemed.

Instruments issued before the date of adoption of the ICS may be considered compliant with T1 Limited criterion e., even when the relevant supervisor has not committed to check the economic nature of a call before granting approval of that call within the first 5 years. This legacy exemption is applicable until the instrument is redeemed.

Financial instruments that do not qualify as Tier 1 (Unlimited or Limited) capital resources, but meet all of the following criteria qualify as Tier 2 capital resources:

• a. The instrument is fully paid-up.
• b. The instrument is subordinated to policyholders and other non-subordinated creditors of the IAIG.
• c. The instrument has an initial maturity of at least five years with its effective maturity date defined to be the earlier of:
  • i. The first call date, together with a step-up or other incentive to redeem the instrument; and
  • ii. The contractual maturity date fixed in the instrument’s terms and conditions.
• d. The instrument’s availability to absorb losses as it nears its effective maturity is captured by either:
  • i. Decreasing the qualifying amount of the instrument from 100% to 0% on a straight-line basis in the final five years prior to maturity; or
  • ii. The existence of a lock-in clause.
• e. If the instrument is callable within the first five years from the date of issue:
  • Any such call is at the option of the issuer only;
  • Any such call is subject to supervisory approval; and
  • The called instrument must be replaced in full before or at redemption by a new issuance of the same or higher quality instrument.

  The obligation of replacement mentioned in the third bullet point above may be waived when the call is tied to a materially adverse tax or regulatory event that could not reasonably be anticipated at the time of issuance; or
  Before granting approval, the supervisor ensures that after redemption of the instrument, the IAIG will cover its ICS capital requirement with a margin sufficient to ensure that the ICS will not be breached over the foreseeable future, taking into account any relevant trend and specificities of the IAIG.
  Other than in cases of replacement outlined above, the instrument is only callable at the option of the issuer after a minimum of five years from the date of issue and prior supervisory approval is required for any redemption prior to contractual maturity.¹¹

• f. The instrument may be repurchased by the issuer at any time with prior supervisory approval.
• g. There is not an expectation created by the IAIG, through the terms of the instrument or otherwise, that the IAIG will repurchase the instrument or exercise its right to call the instrument, or that the repurchase or redemption will receive supervisory approval.
• h. The instrument does not have distributions that are linked to the credit standing or financial condition of the IAIG or a related entity, such that those distributions may accelerate winding-up.
• i. The instrument does not give holders rights to accelerate the repayment of scheduled principal or coupon payments, except in winding-up.
• j. The instrument is neither undermined nor rendered ineffective by encumbrances. In particular, the priority of claims is not compromised by guarantees or security arrangements given by either the IAIG or a related entity over which the IAIG exercises control or significant influence, for the benefit of investors.
• k. Neither the IAIG nor a related entity over which the IAIG exercises control or significant influence has purchased the instrument, nor has the IAIG directly or indirectly funded the purchase of the instrument.
• l. If the instrument is not issued out of an operating entity or the holding company of the IAIG (eg it is issued out of an SPV), proceeds are made immediately available, without limitation, to an operating entity or the holding company of the IAIG, through the issuance of an instrument that meets or exceeds all of the other criteria for inclusion in paid-up Tier 2 capital resources (ie the SPV may only hold assets that are intercompany instruments issued by the IAIG or a related entity with terms and conditions that meet or exceed the criteria for Tier 2 Paid-Up capital resources).

¹¹ In the absence of a requirement for prior supervisory approval, this criterion is considered to be met if the following conditions are met:

Instruments issued before the date of adoption of the ICS, which can be called only at a make-whole price, may be considered compliant with Tier 2 Paid-Up criterion e., even in the absence of a commitment or requirement to replace the instrument before or concurrent to a call within the first five years of issuance. This legacy exemption is applicable until the instrument is redeemed.

Structural subordination of debt refers to a situation where a holding company issues a financial instrument directly to third party investors and then down-streams the proceeds into insurance subsidiaries.

Structurally subordinated financial instruments that meet the criteria for Tier 2 financial instruments, subject to the clarifications of criteria b), e), and f), and new criteria n), o), and p) below, qualify as Tier 2 capital resources:

• b. Subordination to other non-subordinated creditors of the IAIG is not relevant to structurally subordinated instruments that are issued by an IAIG’s holding company to senior creditors.
• e. The requirement for supervisory approval of such a call within the first five years from the date of issue can be fulfilled through the exercise of supervisory controls and supervisory review, including the ability (direct/indirect) for supervisors to limit, defer and/or disallow the issuance or redemption of financial instruments.
• f. The requirement for supervisory approval of repurchases can be fulfilled through supervisory approval¹² of dividends prior to their payment from an insurance subsidiary to the holding company.
• n. The debt instrument has been issued by a clean holding company, which is defined as a holding company that does not have policyholder liabilities on its stand-alone balance sheet.
• o. The IAIG and its GWS have determined that the proceeds of the instruments, which have been down-streamed into insurance subsidiaries, are being tracked and reported appropriately.
• p. Amounts from the instrument issuance have been down-streamed into an insurance subsidiary of the holding company and the insurance subsidiary is located in a jurisdiction whose regulatory regime proactively enforces structural subordination through appropriate regulatory/supervisory controls over distributions from insurance subsidiaries¹³.

¹² For structurally subordinated financial instruments, supervisory approval of ordinary dividends can be met if the supervisor has in place supervisory controls over distributions, including the ability for the supervisor to limit, defer and/or disallow the payment of any distributions should it find that the insurer is presently, or may potentially become, financially distressed.
¹³ Supervisory controls over distributions from insurance subsidiaries refer to the supervisory review and/or prior supervisory approval of all distributions, including the ability for the supervisor to limit, defer and/or disallow the payment of any distributions should it find that the insurer is presently, or may potentially become, financially distressed. As part of its review and/or prior approval of distributions, the relevant supervisor considers surplus adequacy, financial flexibility, the quality of earnings, and other factors deemed to be pertinent as they relate to the financial strength of the insurer and policyholder protection.

Non-paid-up capital consists of commitments, received by entities of the IAIG from third parties non-related to the IAIG, to provide capital upon request.

Financial items, contracts and arrangements established by mutual IAIGs qualify as Tier 2 Non-paid-up capital resources when they meet all of the following criteria:

1. The item has been approved by the supervisor as satisfying criteria b) to g) below as to its characteristics and amount.
2. The item can be called up on demand by the mutual IAIG and is not subject to any contingencies or conditions that prevent or act as a disincentive to the call being made or satisfied.
3. When called up, the item becomes either a financial instrument that meets in full the criteria for inclusion in Tier 1 or Tier 2 paid-up capital resources or a capital element listed in section 4.3.
4. The item is legally enforceable in each relevant jurisdiction.
5. The counterparty to the contract to provide capital is able and willing to pay the agreed amounts when called upon by the mutual IAIG.
6. The item is neither undermined nor rendered ineffective by encumbrances.
7. The mutual IAIG is required to notify the supervisor of any changes of fact or circumstance that could affect the supervisor’s approval of the item.

Subject to any exclusion, adjustment or deduction as specified in section 4.4.1, Tier 1 capital elements, other than financial instruments, include the following items:

1. Retained earnings;
2. Share premium, resulting from the issuance of instruments included in Tier 1, and other forms of contributed surplus earned from sources other than profits;
3. Accumulated Other Comprehensive Income (AOCI);
4. The fair market value of equity-settled employee stock options, provided that a corresponding expense is recorded in the profit and loss account of the IAIG, under applicable accounting standards; and
5. Other allocated to equity, which includes:
   • i. Minority/Non-controlling interests (NCI); and
   • ii. Adjustments applied to the IAIG’s consolidated balance sheet (as per audited financial statements) to produce the ICS balance sheet.

Subject to any exclusion, adjustment or deduction as specified in section 4.4.2, Tier 2 capital elements, other than financial instruments, include the following:

1. Share premium resulting from the issuance of instruments included in Tier 2 Paid-Up capital resources;
2. The value of encumbered assets in excess of the on-balance sheet liabilities secured by the encumbered assets and incremental ICS capital requirement, in respect of those assets and liabilities excluded from Tier 1 (see section 4.4.3 for details on the treatment of encumbered assets); and
3. The Tier 2 basket, comprised of proportions of the following three items which relate to deductions from Tier 1 (see section 4.4.1):
   • i. the value of each net defined benefit pension fund that is an asset on the IAIG’s balance sheet, net of any eligible Deferred Tax Liability (DTL);
   • ii. Deferred Tax Asset (DTA) deducted from Tier 1 capital resources; and
   • iii. the value of computer software intangibles (net of amortisation) deducted from Tier 1 capital resources, net of any eligible DTL.

The Tier 2 basket is subject to a limit, expressed as a percentage of the ICS capital requirement.

The proportions of the three items included in the Tier 2 basket, as well as the overall limit applicable to the basket, are specified in the Level 2 text.

The Tier 2 basket comprises the following three items, subject to a limit of 15% of the ICS capital requirement:

1. 50% of the value of each net defined benefit pension fund that is an asset on the IAIG’s balance sheet, net of any eligible DTL;
2. 100% of the DTA deducted from Tier 1 capital resources; and
3. 10% of the value of computer software intangibles (net of amortisation) deducted from Tier 1 capital resources, net of any eligible DTL.

To the extent that they have not already been excluded through valuation in the ICS balance sheet, the following items are deducted from Tier 1 capital resources:

1. Goodwill;
2. Intangible assets, including computer software intangibles;
3. Each asset recognised on the IAIG’s balance sheet that relates to a defined benefit pension fund;
4. DTAs on the ICS balance sheet;
5. Reciprocal cross holdings, arranged either directly or indirectly between financial institutions and that artificially inflate the Tier 1 capital position of the IAIG;
6. Direct and indirect investments in own Tier 1 capital instruments, not otherwise eliminated;
7. Reinsurance assets arising from arrangements deemed to constitute non-qualifying reinsurance; and
8. Encumbered assets in excess of the on-balance sheet liabilities secured by the encumbered assets and incremental ICS capital requirement in respect of those assets and liabilities (see section 4.4.3 for details on the treatment of encumbered assets).

Items a) to c) are net of any associated DTL that would be extinguished if the item becomes impaired or derecognised under the valuation approach.

To the extent that they have not already been excluded through valuation in the ICS balance sheet, the following items are deducted from Tier 2 capital resources:

1. Reciprocal cross holdings, arranged either directly or indirectly between financial institutions and that artificially inflate the Tier 2 capital position of the IAIG; and
2. Direct and indirect investments in own Tier 2 capital instruments, not otherwise eliminated.

When an IAIG holds encumbered assets in excess of the liabilities and associated risks for which those assets have been encumbered, an adjustment to Tier 1 capital resources is made.

The details of this adjustment are specified in the Level 2 text.

The deduction from Tier 1 capital resources is calculated as the total value of encumbered assets in excess of the sum of the value of the IAIG’s on-balance sheet liabilities secured by the encumbered assets, plus the value of the IAIG’s incremental ICS capital requirement for encumbered assets and secured liabilities.

No Tier 1 deduction is required for encumbered assets relating to off-balance sheet securities financing transactions (ie securities lending and borrowing, repos and reverse repos) that do not result in a liability on the balance sheet.

The amount of encumbered assets deducted from Tier 1 capital resources is included in Tier 2 capital resources, subject to the limits applicable to Tier 2 (see section 4.5 on capital composition limits).

Non-controlling interests (NCI) are subject to a limit calculated at a legal entity level.

The calculation of the NCI limit is specified in the Level 2 text.

For each legal entity generating NCI at group level, a NCI limit is calculated as: Limit = NCI proportion x estimated contribution to group ICS
where:
– NCI proportion = Equity elements issued to 3rd parties / Total equity
– Estimated contribution to group ICS = α. liabilities
– α = Group ICS capital requirement / Group GAAP liabilities

The amount of NCI generated by that entity and exceeding the limit calculated above is deducted from the amount of Tier 1 capital resources.

In order to promote good risk management and achieve an appropriate level of risk sensitivity, the ICS recognises the effect of risk mitigation techniques, provided certain criteria are met. These criteria are set out in the Level 2 text and are designed to ensure that the risk mitigation techniques are accurately and appropriately reflected within the risk charges.

In addition, certain conditions are set regarding the renewal of risk mitigation arrangements. The conditions vary depending on whether the risk mitigation arrangement applies to a Market risk exposure or non-life Premium risk. These conditions are specified in the Level 2 text.

Risk mitigation techniques may be recognised in the ICS risk charges provided they meet all of the following requirements:

1. The risk mitigation technique is effective and legally enforceable in all relevant jurisdictions and results in an effective transfer of risk to a third party.
2. The contractual arrangement ensures that the risk transfer is clearly defined.
3. The calculation of the ICS risk charges allows for the effects of risk mitigation techniques through a reduction of the risk charge commensurate with the extent of risk mitigation. That reduction makes reasonable allowance for any basis risk effects due to changes in risk mitigation assumptions and relationships during a stress scenario and there is appropriate treatment for any corresponding risk embedded in the use of risk mitigation techniques (eg Credit risk). These two effects are treated separately.
4. The calculation is made on the basis of assets and liabilities existing at the reporting date of the ICS calculation.
5. There is no double counting of mitigation effects.
6. The documentation for the arrangement sets out a direct claim on the IAIG’s counterparty in the event of its default, insolvency, bankruptcy or other credit event.
7. Providers of risk mitigation are of an adequate credit quality (demonstrable through either adequate rating, capitalisation or collateralisation levels) to ensure with appropriate certainty that the IAIG will receive the protection in the cases specified by the contracting parties. Credit quality is assessed consistently with the definition of credit categories provided in section 5.4.

In addition to these requirements, market risk mitigation techniques are based on an explicit reference to specific exposures or a pool of exposures.

Where risk mitigation techniques are in force for a period shorter than 12 months and meet the qualitative criteria above, a proportional factor is applied to the risk mitigation effect taken into account in the ICS risk charges. That factor is defined as either:

1. The proportion of the full term of the risk exposure covered by the risk mitigation technique up to a maximum of 100%, where the risk exposure’s term is less than 12 months; or
2. The proportion of 12 months covered by the risk mitigation technique up to a maximum of 100%, where the risk exposure term is 12 months or more.

However, where the IAIG plans to replace a risk mitigation arrangement relating to a Market risk exposure at the time of its expiry with a similar arrangement, this renewal may be taken into account if the IAIG expects to renew and all of the foreseeable costs of renewal within the time horizon are taken into account. The requirement of an expectation to renew is considered to be met if all of the following conditions are met:

1. The renewal is consistent with previous business practice and documented strategy.
2. The replacement of the risk mitigation instrument does not take place more often than every three months, except for Currency risk or Equity risk where the replacement of the risk mitigation instrument does not take place more often than every month.
3. The risk that the risk mitigation arrangement cannot be replaced due to an absence of liquidity in the market is not material under different market conditions and there is no material basis or operational risks compared to the risk mitigation effect. If the instruments mitigating Currency or Equity risk are replaced more frequently than every three months, then the IAIG justifies to its group wide supervisor that:
   1. the market for these instruments is sufficiently liquid at the relevant tenor; and
   2. these instruments do not pose a materially greater risk than those replaced less frequently than every three months.
4. The replacement of the risk mitigation arrangement is not conditional on any future event that is outside of the control of the IAIG. Where the replacement of the risk mitigation arrangement is conditional on any future event that is within the control of the IAIG, then the conditions are clearly set out in the documented strategy referred to in point a).
5. The renewal is realistic regarding the availability of the arrangement and its cost is deducted from the value attributed to the instrument. This deduction takes into account the risk that the cost may increase during the following 12 months.
6. Any additional risk stemming from the risk mitigation arrangement (eg Credit risk) is taken into account in the ICS risk charges.
7. The IAIG is able to demonstrate to its GWS that the required instruments will be available for renewal from a deep and liquid market under all reasonably foreseeable eventualities over the following 12 months. Where this is not the case, the benefit recognised for the renewal of the risk mitigation arrangement is limited to 80% of the full risk mitigating value of the arrangement at the reporting date.

The renewal of risk mitigation arrangements with respect to Non-Life Premium risk may be taken into account if the IAIG expects to renew and the costs of renewal within the time horizon are taken into account. The requirement of an expectation to renew is considered to be met if all of the following conditions are met:

1. The renewal is consistent with previous business practice and documented strategy;
2. The renewal is realistic with regards to availability of the arrangement and its cost¹⁵; and
3. Any additional risk stemming from the risk mitigation arrangement (eg Credit risk) is taken into account in the relevant risk charges.

¹⁵ Costs may include, but are not limited to, ceded premiums to the reinsurer and commissions.

When modelling natural catastrophe risk, the renewal of the arrangements may be taken into account if all of the following conditions are met:

1. The renewal is consistent with previous business practice and documented strategy;
2. The renewal is realistic regarding the availability of the arrangement and its cost; and
3. Any additional risk stemming from the risk mitigation arrangement (eg Credit risk) is also taken into account in the natural catastrophe risk modelling.

Risk mitigation arrangements are not recognised in the calculation of the Operational risk charge.

For some of the risks, a geographical segmentation is used to calculate the risk charge. The geographical segmentation is set out in the Level 2 text.

For those risk charges calculated using a geographical segmentation, the following regions are used:

1. European Economic Area (EEA) and Switzerland;
2. US and Canada;
3. China;
4. Japan;
5. Other developed markets; and
6. Other emerging markets.

The jurisdictions included in each region are listed in Table 5.

¹⁶ Including American Samoa, Guam, Northern Mariana Island, Puerto Rico and US Virgin Islands.
¹⁷ ‘Other developed’ taken from IMF list of advanced economies minus countries mentioned in other regions as of April 2016.
¹⁸ See http://www.imf.org/external/pubs/ft/weo/2016/01/pdf/text.pdf (accessed on 12 May 2016).

A credit for exercising management actions is taken into account at the level of each risk in the capital requirement, subject to a cap, as described in the Level 2 text.

The impact of management actions for each individual risk is calculated consistently with the provisions set out in section 3.2.4. The impact of management actions is based on realistic assumptions and reflects the IAIG’s obligations to policyholders as well as legal provisions applicable to the IAIG and contract boundaries. The impact of management actions takes into account only the effects of future actions that are contractually enforceable by the IAIG and that are assumed to be enacted after the stress event. This excludes for example dynamic hedging and similar rebalancing strategies that are assumed to be enacted during the stress. For example, the equity stress is assumed to happen instantaneously, therefore a rebalancing during the decline of equity prices of x% is not allowed.

The impact of management actions related to FDB on the pre-tax aggregated ICS risk charges (as specified in section 5.6) is limited to the total initial amount of insurance liabilities related to FDB.

For life risks, stress scenarios are applied at the level of homogeneous risk groups, as detailed in the Level 2 text.

The projections of the stressed cash flows are conducted at the same level of granularity as the pre-stress cash flows. Where the pre-stress cash flows have been projected by applying some grouping of policies, the same grouping of policies is applied to the stressed cash flows.

From a practicality standpoint, grouping by portfolios of products (or policies) exposed to homogeneous insurance risks within the class may be applied. For this purpose, a homogeneous risk group encompasses a collection of policies with similar risk characteristics.

Homogeneous risk groups are reasonably stable over time. Where necessary, for the determination of homogeneous risk groups, the IAIG takes into account items such as:

1. Underwriting policy;
2. Claims settlement pattern;
3. Risk profile of policyholders;
4. Product features, in particular guarantees; and
5. Future management actions.

Life risk charges are applicable to life business and similar to life health business (refer to paragraph L1-95).

The life risk charge is calculated by aggregating, using the life risks correlation matrix specified in the Level 2 text, the following five sub-risk charges.

• Mortality risk;
• Longevity risk;
• Morbidity/Disability risk;
• Lapse risk; and
• Expense risk.

Life risk charges are calculated based on the geographical segmentation specified in the Level 2 text.

For each of the five sub-risks, the risk charge is calculated both with and without the impact of management actions.

The correlation matrix used for aggregating the life risk charges is the following:

Non-life risk charges are applicable to non-life business and similar to non-life health business.

The non-life risk charge comprises both Premium risk and Claims Reserve risk, which are captured by a factor-based approach with factors applied to ICS segments within defined regions, as specified in the Level 2 text. The Claims Reserve risk factors include the effects of Latent Liability risk.

The non-life insurance risk charge is calculated using an aggregation approach that recognises diversification across lines of business and regions. The correlation factors are specified in the Level 2 text. The aggregation approach recognises the following sources of diversification:

• Between Premium risk and Claims Reserve risk;
• Within ICS categories, which is a high-level grouping of the type of business;
• Within a region; and
• Across regions.

Premium and Claims Reserve risk charges are calculated based on the geographical segmentation specified in the Level 2 text. The geographical segmentation is further segmented into lines of business based on statutory reporting in certain regions.

Catastrophe risk is a risk that affects both life and non-life business. The Catastrophe risk charge covers risks associated with low frequency, high severity events occurring at any point in time in the next 12 months and takes into account all expected in-force business when the event occurs.

Risk mitigation arrangements (eg outwards reinsurance protection purchased) may reduce the overall Catastrophe risk charge.

Catastrophe risk is segmented at the risk/peril level. Perils cover both naturally occurring perils (natural catastrophes) and man-made perils/scenarios (other catastrophes) and their consequences.

The impact of catastrophe claim events include not only the main peril (eg windstorm, earthquake) but also the secondary perils associated with the primary peril. Secondary perils can affect all lines of business within the scope of the calculation.

The perils, scenarios and allowable risk mitigation, along with prudential safeguards for the use of models to calculate the natural catastrophe risk charge, are specified in the Level 2 text.

The market risk charge is calculated by aggregating, using the market risks correlation matrix specified in the Level 2 text, the following six sub-risk charges:

• Interest Rate risk;
• Non-Default Spread risk;
• Equity risk;
• Real Estate risk;
• Currency risk; and
• Asset Concentration risk.

When calculating the market risk charges, the following impacts are considered:

• The direct impacts of the prescribed stress scenarios on the value of assets and liabilities; and
• The indirect impacts linked to potential changes in policyholder behaviour following the prescribed stress scenarios.

For each of the six sub-risks, the risk charge is calculated both with and without the impact of management actions.

The correlation matrix used for aggregating the market risk charges is the following:

The calculation of the Interest Rate risk charge is based on a combination of three stresses applied to the entire risk-free yield curve for each relevant currency as identified in paragraph L1-114:

• A mean-reversion scenario;
• A level up scenario; and
• A level down scenario.

The characteristics of those stresses are specified in the Level 2 text. The stress scenarios are applied only to assets and liabilities that are sensitive to a change in the level of risk-free rates; the identification of assets and liabilities subject to the stresses is specified in the Level 2 text. The impact of those stresses on lapse rates, due to the influence of market conditions on policyholder behaviour, is taken into account as specified in the Level 2 text.

The impact of the scenarios listed above is calculated for all currencies in which the IAIG holds interest rate sensitive assets or liabilities. Currencies for which the exposure is non-material may be grouped together. The stress impacts calculated for each currency or group thereof are then combined to derive the overall Interest Rate risk charge.

The methodology to aggregate the results across the five stresses and relevant currencies, is specified in the Level 2 text.

All assets and liabilities sensitive to changes in interest rates are taken into account in the calculation of the Interest Rate risk charge, with the exception of financial instruments issued by the IAIG that qualify as capital resources.

For current estimates of insurance liabilities calculated with a dynamic lapse function that uses the interest rate as an input variable, the base lapse assumptions stay unchanged under the interest rate stresses, but lapse rates react to the interest rate scenarios used to calculate the Interest Rate risk charge.

The Interest Rate risk charge is calculated as:

where:

• i is an index over all currencies in which the IAIG is exposed to Interest Rate risk;
• MRᵢ is the result of the mean reversion scenario for currency i, obtained as described in paragraph L2-209; and
• LTᵢ is a random variable encompassing the results of the level up and level down scenarios for currency i, as specified in paragraph L2-207.

For currency i, LTᵢ is defined as:

where:

• N⁻¹(0.995) is the 99.5% quantile of the standardised normal distribution;
• LUᵢ and LDᵢ are the results of the level up and level down scenarios respectively, obtained as described in paragraph L2-209; and
• Xᵢ is a random variable following a standardised normal distribution.

In addition, the random variables Xᵢ are such that for any i ≠ j, corr(Xᵢ,Xⱼ) = 0.75.

For currency i, MRᵢ, LUᵢ and LDᵢ correspond to the change in the IAIG’s Net Asset Value when recalculating the value of all relevant assets and liabilities using the mean reversion, level up and level down stressed yield curves respectively, obtained using the methodology described in paragraphs L2-210 to L2-215.

For each currency, the stressed yield curve for the mean reversion scenario is obtained by adding the following yield curve to the initial yield curve, up to the LOT:

where:

• Level curve is the curve equal to 1 for all maturities;
• Slope curve is the curve equal to (1-e^-λτ) / (λτ) for any maturity τ;
• Curvature curve is the curve equal to (1-e^-λτ) / (λτ) – e^-λτ for any maturity τ;
• λ is the exponential decay rate of the Nelson Siegel model²¹ for the risk-free yield curve;
• [ΔL, ΔS, ΔC]^T is the vector defined as (I – e⁻ᴷ) (μ – V₀);
• I is the 3×3 identity matrix;
• K = (K₁, 0, 0; 0, K₂, 0; 0, 0, K₃) and μ = (μ₁, μ₂, μ₃) are parameters of the process followed by the vector Vₜ below, described by the equation:

  

• Vₜ = (β₁ₜ, β₂ₜ, β₃ₜ) where β₁ₜ, β₂ₜ and β₃ₜ correspond to the Nelson Siegel parameters²¹ for the risk-free yield curve at time t; and
• Wₜ is a 3-dimensional Wiener process and Σ is a lower triangular matrix of real non-negative factors.

²¹ As described in the article Diebold, F.X. and Li, C (2006) Forecasting the Term Structure of Government Bond Yields in Journal
of Econometrics, 130, 337-364

For the mean reversion scenario, the value of the LTFR remains unchanged.

For each currency, the stressed yield curve for the level up scenario is obtained by adding the following yield curve to the initial yield curve, up to the LOT:

where:

• (sl₁, sl₂, sl₃) = Me₁;
• M = ((ΣΣ^T) ⊙ ((1 – exp(-(K_i + K_j))) / (K_i + K_j))_ij)^(1/2), with ∑ and Kᵢ denoting the parameters of the equation described in paragraph L2-210, and ⨀ the Hadamard product operator;
• e₁ is the eigenvector associated with the highest eigenvalue of the matrix NᵀN
• N = (LOT, 0, 0; a, 0, M; b, 0, 0);
• a = sum_{τ=1}^{LOT} ( (1 – exp(-λτ)) / (λτ) ) and b = sum_{τ=1}^{LOT} ( ( (1 – exp(-λτ)) / (λτ) ) – exp(-λτ) ); and
• s = { 1 if (sl1 * Level_curve_LOT + sl2 * Slope_curve_LOT + sl3 * Curvature_curve_LOT) >= 0
  -1 otherwise }

For the level up scenario, the LTFR is subject to an absolute increase equal to the minimum between:

• 10% of the LTFR calculated in accordance with paragraphs L2-61 to L2-64; and
• the maximum annual change to the LTFR specified in paragraph L2-64.

For each currency, the stressed yield curve for the level down scenario is obtained by adding the following yield curve to the initial yield curve, up to the LOT:

For the level down scenario, the LTFR is subject to an absolute decrease equal to the minimum between:

• 10% of the LTFR calculated in accordance with paragraphs L2-61 to L2-64; and
• the maximum annual change to the LTFR specified in paragraph L2-64.

Non-Default Spread Risk (NDSR) is a relative bi-directional stress applied to both assets and liabilities. The Non-Default Spread risk charge is calculated as the maximum of an upward and downward stress, subject to a floor of zero.

The characteristics of the stresses to apply, as well as the rules governing the identification of those assets and liabilities to which the stress applies, are specified in the Level 2 text.

All liabilities sensitive to changes in spreads are taken into account in the calculation of the NDSR charge, with the exception of financial instruments issued by the IAIG that qualify as capital resources.

All assets that contribute to the calculation of the spread adjustments for valuation purposes (Table 2 in section 3.2.5.3.2.1), are taken into account in the calculation of the NDSR charge, with the exception of sovereign bonds.

For assets, the downward and upward spread stresses used for the calculation of the NDSR charge are a relative stress of -75% and +75% of the absolute value of spreads, respectively. The upward stress is subject to a cap and a floor.

where spread(t) is the current spread of the asset over the relevant risk-free rate and is measured in basis points (bps).

For the determination of the stressed insurance liabilities, the same stresses are applied to the input values (for t>0) used to derive the spread adjustments to the relevant base yield curve. Then the same methodology as laid out in section 3.2.5.3.2 is applied to these stressed input values to determine the final spread adjustment after stress.

The Equity risk charge is calculated as the change in net asset value following the occurrence of stress scenarios that impact the level and volatility of the fair value of equities, after management actions. The level scenarios are specified by segments of assets. A volatility scenario is measured separately. The stress scenario is defined in the Level 2 text.

The Equity risk charge applies to direct and indirect exposures to all assets and liabilities with values sensitive to changes in the level or volatility of the fair value of equities as specified in the Level 2 text.

The Equity risk charge uses the following segmentation of assets as defined in the Level 2 text:

• Equity in developed markets, split between:
  • Listed equity (other than infrastructure); and
  • Infrastructure equity;
• Equity in emerging markets, split between:
  • Listed equity (other than infrastructure); and
  • Infrastructure equity;
• Hybrid debt/preference shares; and
• Other equity.

The following definitions apply to the equity segments listed in the Level 1 text.

Listed equity in developed markets includes equities listed on the securities exchanges of equity markets included in the FTSE Developed Index: Australia, Austria, Belgium, Canada, Denmark, Finland, France, Germany, Hong Kong SAR, Ireland, Israel, Italy, Japan, Luxembourg, Netherlands, New Zealand, Norway, Poland, Portugal, Singapore, South Korea, Spain, Sweden, Switzerland, UK, and US.

Any equity market not included in the FTSE Developed Index is considered an emerging market.

Infrastructure equity is comprised of equity assets that meet the definitions and criteria specified in sections 1 and 2 of Annex 3.

Investments in subordinated debt are included in the Equity risk charge within the segment hybrid debt/preference shares.

The segment other equity is comprised of all investments not included in the previous equity segments.

The four level scenarios (one for each asset segment) and volatility scenario are defined as:

1. A decrease by 35%, before applying the Neutral Adjusted Dampener (NAD), of the market prices of listed shares in developed markets, other than infrastructure equity, and by 27% of the market prices of infrastructure equity in developed markets. The impact of the decrease in value of listed equity and infrastructure equity is aggregated using a linear correlation factor of 1.
2. A decrease by 48%, before applying NAD, of the market prices of listed shares in emerging markets, other than infrastructure equity, and by 37% of the market prices of infrastructure equity in emerging markets. The impact of the decrease in value of listed equity and infrastructure equity is aggregated using a linear correlation factor of 0.75.
3. A decrease of the market prices of hybrid debt/preference shares by x%, with x based on the ICS rating category (RC) of the asset, as specified in Table 17.
   

   ICS RC	x%
   1-2	4%
   3	6%
   4	11%
   5	21%
   6-7	35%

4. A decrease by 49%, before applying NAD, of the market prices of all assets classified as other equity, as defined in paragraph L2-225.
5. An absolute increase by x% of the implied volatilities of all the asset classes listed above, with x having the values provided in Table 18. For maturities not specified, the increase is interpolated linearly.
   

   Maturity (months)	x%
   0-1	42%
   3	28%
   6	23%
   12	20%
   24	17%
   36	16%
   48	15%
   60	14%
   84	14%
   120	12%
   144	11%
   180	10%
   240	7%
   300	4%
   360 and above	0%

The NAD is an additive component that behaves in a counter-cyclical manner. The NAD ranges from -10% to +10% and is applied on the developed markets, emerging markets, and other equity asset segments. NAD is computed using the following formula:

• CIi = Current Index value for category i
• AIi = 3 years moving average index for category i
• a = 50%
• b = 7%
• c = 10%

The results of the stresses listed above are aggregated in two steps:

1. Step 1: The total level risk is calculated by aggregating the impact of the stress for each level scenario, floored at zero, using the following correlation matrix:
   

   Equity segment	Developed	Emerging	Hybrid/preferred	Other
   Developed	100%	75%	100%	75%
   Emerging	75%	100%	75%	75%
   Hybrid/preferred	100%	75%	100%	75%
   Other	75%	75%	75%	100%

2. Step 2: The total Equity risk charge is calculated by summing the total level risk (from Step 1) and the impact of the stress under the volatility scenario.

The Real Estate risk charge is calculated as the change in the net asset value, following the occurrence of a prescribed stress scenario, based on a change in the level of real estate prices, after management actions, as specified in the Level 2 text.

The Real Estate risk stress scenario is applied to both direct and indirect exposures to real estate prices, without distinguishing between commercial, residential and real estate for own use (see section 1.3 on look-through), as specified in the Level 2 text.

The stress scenario referred to in the Level 1 text is a decrease of 25% in real estate prices. Assets and liabilities subject to the stress are:

1. Commercial investment real estate;
2. Residential investment real estate;
3. Real estate for own use;
4. Other assets whose value is impacted by a change in real estate prices; and
5. Liabilities, both insurance and other, whose value is impacted by a change in real estate prices.

The Currency risk charge is equal to the higher of the aggregated losses incurred under two stress scenarios on the exchange rates between the IAIG’s reporting currency and those currencies in which the IAIG holds assets or liabilities. The prescribed stresses are applied to the net open position determined for each relevant currency.

The net open position in a currency takes into account all direct and indirect exposures to that currency. Where relevant, an amount corresponding to jurisdictional capital requirements in that currency, subject to a cap, may be deducted from the net open position.

The two stress scenarios are:

1. Scenario 1: All of the currencies in which the IAIG has a net long position decrease in value against the reporting currency, while all of the currencies in which the IAIG has a net short position remain unchanged; or
2. Scenario 2: All of the currencies in which the IAIG has a net short position increase in value against the reporting currency, while all of the currencies in which the IAIG has a net long position remain unchanged.

Within each scenario, the losses by currency are aggregated using a correlation formula, as described in the Level 2 text.

The prescribed stresses for each currency pair, the aggregation formula, as well as the rules applicable to the determination of net open positions, are specified in the Level 2 text.

In order to determine the Currency risk charge, the IAIG determines its net open position for all currencies other than the reporting currency. The net open position for each currency is calculated as the sum of the following:

1. The net spot position, defined as all assets less liabilities, including accrued interest and accrued expenses;
2. The net forward position, defined as all net amounts under forward foreign exchange transactions, including currency futures and the interest and principal on currency swaps;
3. The delta equivalent amounts of currency options;
4. Guarantees and similar instruments that are certain to be exercised and are likely to be irrevocable;
5. At the discretion of the IAIG, net future income and expenses not yet accrued but already fully hedged;
6. Any other item representing a profit or loss in the foreign currency;
7. Minus the amount of capital required locally to support the activities in the foreign currency, subject to a cap of 10% of net insurance liabilities in that currency.

The deduction referred to in point g) of paragraph L2-230 is applied to long positions only and does not change any long position to a short position. This deduction applies only if the IAIG has operations in the jurisdiction of the foreign currency.

The net open currency position excludes assets that are fully deducted from capital resources, and liabilities that qualify for inclusion in consolidated capital resources.

The net insurance liability reported for each currency consists of the current estimate net of any reinsurance assets, plus all deferred tax assets and liabilities associated with the current estimate and reinsurance assets.

Forward currency positions are valued at spot market exchange rates as at the reporting date.

The Currency risk charge is equal to the higher of the aggregated losses incurred under the following two scenarios:

1. Scenario 1: all currencies in which the IAIG has a net long position decrease in value, while all of the currencies in which the IAIG has a net short position remain unchanged. The amount of the decrease of each foreign currency relative to the reporting currency is found in the currency stress matrix in Table 20 below. The decrease for currency pairs not listed in Table 20 is 60%.
2. Scenario 2: all currencies in which the IAIG has a net short position increase in value, while all of the currencies in which the IAIG has a net long position remain unchanged. The amount of the increase of each foreign currency relative to the reporting currency is found in the currency stress matrix in Table 20 below. The increase for currency pairs not listed in Table 20 is 60%.

For each scenario, the losses by currency are aggregated using a correlation formula for which the assumed correlation of losses between each pair of foreign currencies is 50%.