Insurance regulatory regime takes hold in Hong Kong

Hong Kong

As Europe moves towards increased regulation, Ann Leung explores how the trend for increasing corporate governance in Hong Kong is affecting regulation of the insurance industry.

Since the global financial crisis of 2008, the financial services industry in Hong Kong has been gradually shifting from a free market, laissez faire approach to a more hands-on one with increased regulatory oversight. This, however, is still a long way from the restrictive approaches found in Europe.

Current regulation
Regulation of the insurance industry in Hong Kong is affected by a mix of statutory requirements, regulatory supervision and self-regulation. At the top is the Insurance Companies Ordinance, which sets out the framework for carrying out insurance business in Hong Kong.

It is administered by the Office of the Commissioner of Insurance and the Insurance Authority, which is responsible for the prudential regulation of insurers, ensuring compliance with the ICO and issuing codes of conduct.

Insurance intermediaries in Hong Kong are currently moderated by approved self-regulated organisations. Insurance brokers are regulated by the Hong Kong Confederation of Insurance Brokers or the Professional Insurance Brokers Association and insurance agents by the Hong Kong Federation of Insurers.


"Regulation of the insurance industry in Hong Kong is affected by a mix of statutory requirements, regulatory supervision and self-regulation."


The new authority
Hoping to bring insurance in line with other local and international financial services regulators, in June 2011 the Hong Kong government made detailed proposals to establish a statutory Independent Insurance Authority.

The proposed IIA will retain the existing powers of the IA and, in addition, will have enhanced control in relation to the regulation of insurers, including express powers to initiate investigations, search and seize materials upon warrant, prosecute offences summarily and impose a range of regulatory sanctions including fines and revocation of licence.

Replacing self-regulation
The IIA will also replace the self-regulatory structure and be responsible for the licensing and direct regulation of insurance intermediaries. Market participants appear to have responded stoically to the new regime.

Although the proposed changes look, at first glance, to involve a vast departure from the existing regulatory regime, they are, on the whole, structural in nature. There is no hint of regulatory changes, nor are there any proposals for changes to the licensing requirements.

However, intermediaries will certainly be affected and the IIA is likely to be more vigilant in its supervision of industry practitioners.


"Although the proposed changes look, at first glance, to involve a vast departure from the existing regulatory regime, they are, on the whole, structural in nature."


Greater governance
The Securities and Futures Commission is an autonomous body responsible for administering laws governing the securities and futures markets in Hong Kong. It has recently instigated changes that reflect a growing trend towards closer regulatory scrutiny.

The SFC is currently conducting a public consultation on proposals to enhance its scrutiny of listing sponsors, typically banks and corporate finance houses. The proposed regime will increase the sponsor's responsibilities towards due diligence and disclosure.

In particular, sponsors would have to be "reasonably satisfied" that information in the company's prospectus is "true, accurate and complete", and demonstrate that it is reasonable to rely on reports from accountants, auditors, valuers and other experts.

Although sponsors are not required to repeat the work done by experts, they would be expected to test the information provided in the reports to ensure that the information in the prospectus is "credible and coherent".


"The proposed regime will increase the sponsor's responsibilities towards due diligence and disclosure."


Civil and criminal liability
Additionally the proposals would clarify that a sponsor has civil and criminal liability for untrue statements, including material omissions in a prospectus.

The plans to increase regulatory scrutiny have caught the attention of the financial market and sponsors are unlikely to welcome the changes, which would increase their liability and responsibilities.

The proposal would also have a direct impact on the insurance sector; any cost and liabilities falling on sponsors could well come back to bite issuers under indemnities contained in underwriting agreements and trigger the offering underwriter clause in IPO policies.

D&O requirements
The requirement to hold directors' and officers' liability insurance changed from being a "recommended best practice" to a "comply and explain" mechanism.

All issuers must now obtain D&O insurance or justify why they have not done so. It is difficult to see what would constitute good reasons not to have "appropriate" D&O insurance, particularly as these lines are relatively competitively priced in Hong Kong.

While this change will hopefully be beneficial to the insurance sector, it is a further reflection of the trend towards better risk management and corporate governance in Hong Kong's financial industry.


"While this change will hopefully be beneficial to the insurance sector, it is a further reflection of the trend towards better risk management and corporate governance."


Commission disclosure
Broker commission remains a topic of interest in the insurance industry, particularly whether it constitutes a breach of the Prevention of Bribery Ordinance.

In January, the Hong Kong Court of First Instance held in the case of Hobbins v Royal Skandia Life Assurance Ltd and Anor (HCCL No. 15 of 2010) that, as long as a commission is "normal", no disclosure is necessary but should be considered "minimum good practice".

As payments are customarily made by the insurer and not the customer, commission disclosure has always been a tricky topic. This gives rise to difficulties relating to a broker's fiduciary duties not to make a secret profit nor be in a position of conflict.

Final resolution
Interestingly, this is an area that the IA has not been overly eager to step into, leaving it to the SRO and the market to attempt a solution.

Market participants were in a state of flux until the recent court ruling. However, with the judgment on appeal until December 2012, the industry must wait a little longer for the issue to be put to rest.

Hong Kong is clearly moving towards a more rigorous regulatory oversight of the financial markets. However, compared to Solvency II, currently being debated in the European arena, the reforms by the Hong Kong Government are far from extreme.

History would suggest that it will probably be some years before Hong Kong reaches the extent of regulatory overhaul seen elsewhere in the financial world.

Ann Leung is a senior associate with DLA Piper and writes on behalf of the Chartered Insurance Institute.

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