The Hong Kong Federation of Insurers (HKFI) reaffirms its support in principle for the proposed establishment of the IIA.  This, we firmly believe, will help improve and strengthen the present regulatory regime for better consumer protection and the healthy development of the insurance industry in the long term.  With this in mind, we set up a special task force under the Governing Committee to study the matter and provide comments as requested.

The task force, headed by our Governing Committee member Mr Allan Yu, has conducted rounds of discussions with the Commissioner of Insurance and briefings for our Member Companies.  Also we have written to our Member Companies individually to seek their views and ascertain their concerns, if any. 

On 17 December 2012, we organized a focus group discussion jointly with the Hong Kong Insurance Law Association to examine from different perspectives the Proposals.  Close to 80 Chief Executive Officers of insurance companies, reinsurers, representatives of insurance intermediary bodies, legal professionals specialized in insurance attended a half-day session, and I am pleased to say that we had a frank and constructive exchange of views. 

Enclosed are the consolidated comments incorporating views from our Member Companies as well as those we gathered from the focus group discussion.  In particular, your attention is drawn to a number of our key concerns as follows:

1. Regulatory powers on insurance companies

It is critically important that the new legislation clearly defines both the obligations of insurers and the scope and manner of exercise of the IIA's powers.  This is necessary to ensure that insurers understand their regulatory obligations and that any powers will be exercised by the IIA in accordance with, and subject to, a proper and transparent framework.  There is also a compelling need to ensure that the legislation complies with two fundamental tenets of the Rule of Law, being that the law must be accessible, clear and predictable, and that questions of legal right and responsibility should be resolved by the application of the law and not the exercise of discretion.

One of our key concerns is that the Proposals do not provide sufficient clarity as to the obligations of insurers.  Instead, they would confer broad powers upon the IIA without proper guidance as to how those powers are to be exercised.  This is exemplified by paragraph 3.2.1(a) of the Proposals, which seeks to confer a general power to the IIA to "do all such things as are necessary for, or incidental or conducive to, the performance of its functions" - a power which appears far too wide, given the uncertainty as to the objectives and functions of the IIA elsewhere.  Several similar examples are identified in the consolidated comments from Member Companies and below.

It is also important that the new regulatory regime recognizes and accommodates the unique characteristics of insurers and the insurance business as it has developed and evolved in Hong Kong over the years.  Amongst other things:

• A sizeable number of insurers are large organizations with complex operations.  Their Chief Executive Officers (CEO) have diverse backgrounds and many have no experience of directly administering insurance agents.  Their CEO may also have significant and extensive responsibilities which may limit the time they can devote to administering insurance agents.

• Under the existing regulatory regime, insurance agents may act as the agent of up to four insurers at any one time.  Agents also generally conduct their activities outside of an insurer's premises, meaning that an insurer is practically unable to directly supervise an agent's operations 100% of the time.  Thus the insurer must rely on rules, guidelines, contract and audit to ensure proper conduct and the insurer must rely on some sanction should the agent step out of line.  All this takes time and undivided attention and is more appropriately managed by a delegate of the CEO.

• Insurers have ongoing contractual commitments to policyholders which may extend for significant periods into the future.

In this context, it becomes clear that some features of the proposed new regime are not suited to insurers and the insurance business.  In particular, the Proposal in paragraph 4.5.4 that an insurer's CEO shall act as that insurer's Responsible Officer is blatantly inappropriate, given that many CEOs may not have the experience or the time to perform this role.  Would it be more workable for insurers to nominate, subject to the approval of the IIA, an officer with appropriate responsibilities and qualifications to be their Responsible Officer?

Further thought must also be given to the Proposal in paragraph 4.5.5, that insurers shall establish controls and procedures to secure agents' compliance with conduct requirements and that Responsible Officers must use their "best endeavours" to ensure that such controls and procedures are observed.  The term "best endeavours" is not defined in the Proposals and it is not clear what the term entails (the stringent definition which applies in contract law is clearly inappropriate).  Such obligations may also give rise to major difficulties, given that Responsible Officers are unable to directly supervise an agent's operations and that different requirements may be imposed by different insurers on the same agent.  Could the term "best endeavours" be changed to "reasonable steps"?  Would it be possible to develop specific requirements as to the controls and procedures and the manner in which agents are to be supervised?

A third key concern relates to the proposal in FAQ 16, that the IIA may suspend a licensed intermediary or a Responsible Officer from carrying on any regulated activity pending the conclusion of a disciplinary investigation.  A suspension pending investigation may have very serious business and financial consequences.  Should it be imposed only in exceptional circumstances, particularly in light of the fact that, at the investigation stage, no disciplinary findings will have been made?  Should there be a maximum time limit for any suspension within which any investigation must be concluded?

Lastly, it is noted that under paragraph 5.4.3(14) of the Consultation Document the IIA may require an insurer whose authorization has been revoked or suspended to transfer business records to policyholders.  To the extent that the insurer's existing contractual commitments remain unaffected (paragraph 5.4.3(13)) the imposition of a requirement to transfer records may interfere with proper record management and undermine an insurer's ability to comply with their contractual commitments.

2. Disciplinary sanctions on insurance intermediaries

The need to establish a new disciplinary regime for insurance intermediaries is recognised.  That said, the Proposals appear to give rise to a number of issues.

The first problematic area is that insurance agents must act in the best interests of policyholders and potential policyholders, which is incorporated into both the new conduct requirements for insurance intermediaries in paragraph 5.1.2 and the proposed definition of "misconduct" in paragraph 5.3.3(1)(a)(iv).  This requirement would fundamentally conflict with the existing legal duties of agents.  At law, an insurance agent acts for the insurer who is the counterparty of the policyholder.  The agent has the ability to bind the insurer and, in the exercise of the agent's function, the agent owes a duty of care to the insurer and a fiduciary duty to act in the insurer's best interests (see Colinvaux's Law of Insurance in Hong Kong (2nd Edition) at paragraphs 14.001 and 14.007).  Given the existing legal duties of agents and the nature of their role, the proposed requirement appears unworkable and inappropriate.

Another key concern is the Proposal in paragraph 5.3.3(2)(c)(iv) to empower the IIA to impose a pecuniary penalty upon insurance intermediaries of up to $10,000,000 or three times the amount of any profit gained or loss avoided as a result of misconduct, whichever is the greater.  Given the moderate incomes of most intermediaries, the proposed level of penalty is grossly excessive, to say the least.  It is also out of proportion with the penalties applicable under other analogous disciplinary regimes and criminal law.  The maximum financial penalty for disciplinary offences by accountants, solicitors and barristers is in each case $500,000 and there is no financial penalty for disciplinary offences committed by medical practitioners.  The maximum fine specified under s. 113C of the Criminal Procedure Ordinance for general criminal offences is a fine of Level 6, being $50,001 to $100,000.  Would it be more sensible to come up with, for example, different layers of penalties commensurate with the severity of the types of offence committed?

Thirdly, it is essential that the proposed new Insurance Appeals Tribunal offers an effective remedy to intermediaries who are aggrieved by a disciplinary decision of the IIA.  In this regard, further clarification as to the intended operation of the Tribunal is necessary and critical.  What will be the procedures to be followed by the Tribunal?  Will the records and findings of the Tribunal be made public?  What costs orders will be imposed upon intermediaries and how will the legislation ensure the threat of potential costs does not deter intermediaries from exercising their right of review?

3. Representation at the Governing Board and Industry Advisory Committees

The Government's intention to ensure the IIA is independent of the industry is acknowledged.  It is nevertheless important for the healthy development of the industry over the long term that proper provision is made for the industry to be able to express its views to the IIA and that the interests of all industry sectors will be taken into account before introducing any important new measures with permanent and extensive impact on the industry as a whole.

Presently, it is proposed that at least one, but not more than two, of the non-executive directors on the Board of the IIA will be persons appointed on the basis of their experience in the industry.  There will also be two industry advisory committees to advise the Board on long-term business and general business, comprising members appointed by the Financial Secretary after consultation with the IIA. 

The provisions enabling the industry to express its views to the IIA should be duly strengthened in a number of aspects.  First, with respect to Board representation, one to two non-executive directors appointed on the basis of their industry experience is markedly inadequate.  Would it be possible that there is a representative with experience of each major industry sector on the Board, namely general, life and intermediary?  And in line with this train of thought and to maintain the right balance, would it be more sensible to increase the number of directors from six to nine (predominantly non-executive directors) and the number of non-executive directors from the insurance industry from two to no less than three?

On the other hand, there is no maximum limit on Board membership.  This could significantly dilute the participation of insurance practitioners on the Board and the insurance industry, as a result, will run the risk of being vastly under-represented.  Would there be provisions to ensure that the proportion of such directors to the whole Board does not fall below a certain percentage and that important decisions should be expressly reserved for the Board?

Secondly, the legislation does not make any specific provision for the composition of the industry advisory committees.  Again, ideally there should be a representative from each major industry sector on each committee.  But how do we ensure the advisory committees can truly perform the functions of advising and making recommendations to the IIA?  Should the legislation require the committees to be convened regularly and stipulate that the Board of the IIA must consult the committees before making any decisions which will impact the industry?

4. Roles and Functions of the IIA

The main focus of the Proposals is on the control and regulation of insurance companies and intermediaries.  Not much emphasis, I regret to say, has been put on the healthy growth of the insurance industry essential to the well-being of the economy of Hong Kong.

In 2011, the total gross premiums of the Hong Kong insurance industry amounted to $233.7 billion, representing about 12.3% of Hong Kong's gross domestic product.  With 161 authorized insurance companies and a total work force of around 90,000, the insurance industry represents a major pillar of Hong Kong's financial sector.  For the good of Hong Kong, would we need an IIA focused primarily on regulating the industry?  Or would we prefer the future regulator assuming a bigger and wider role as a market enabler, providing impetus to the healthy growth of the market and promoting Hong Kong as an insurance/reinsurance centre/captive insurance hub?

Losses arising from insurance fraud are on the up trend.  Such criminal activities are increasing in both number and sophistication.  Insurance fraud, if not nipped in the bud, could severely undermine the normal functioning of the market and the cost has to be shared eventually by all consumers.  Persistent leakage of the system arising from fraud must be plugged.  Would the IIA take the lead and introduce proactive measures to combat this type of illegal act for the benefits of the industry as well as the insuring public?

Currently, around 75,000 intermediaries are serving the industry and the insuring public.  They are valuable assets to and are playing an indispensable part in our industry.  Should the IIA be tasked to help attract, train and retain talents instead of being seen to be introducing new sets of penalties to frighten them off?

5. Risk Based Capital

The Administration began the Study on Risk-based Capital (RBC) framework for Hong Kong insurance market last September with a very tight timetable.  While we are supportive of the introduction of more dynamic regulatory measures to ensure adequate solvency margins of insurers, the industry is hugely concerned about the time frame and possible approach the Government may have formulated.  From the experience in Taiwan, Malaysia and other countries, RBC could bring about significant changes to the ecology of the insurance industry. 

We are, therefore, bound to ask if the Administration will execute and implement RBC framework in a hasty manner as one of top priority areas to be pursued by the IIA right after its establishment.  Would such an important regulatory requirement be implemented in phases or at one go with very limited preparatory time for insurers?  What would be the likely impact on the Hong Kong insurance market?  Would the demand for additional capital to meet the new solvency ratio trigger rapid market consolidation, cessation of business among SME insurers, exit or withdrawal of international players?  We must be mindful of such unintended consequences and the need to put in place proper measures to manage the process accordingly.

Also we would strongly advise against putting detailed requirements for calculating Insurance Reserves and Risk Based Capital requirements in the primary legislation.  To provide more flexibility to deal with the launch of new products, would it be more advisable to make these requirements part of the subsidiary legislation instead?  Note that in the proposed legislation the Legislative Council has the right to review these regulations.

6. Transitional Arrangement

This is a major restructuring of the regulatory framework from self-regulation to direct supervision under the IIA.  It will practically transform the regulatory landscape of our industry and has far-reaching implications.  Changes of this nature and magnitude would require proper calibration of all components and the process has to be professionally managed and co-ordinated.  Would the setting up of a provisional body of the IIA be a prudent way forward to ensure a smooth and seamless transition?

Proper transfer of personal data, information and records of the licenced intermediaries from three separate self regulatory organisations (SROs) to the future IIA is of paramount importance.  Do we need to come up with appropriate legislation or a legally sound administrative framework for the required data transfer to avoid potential litigation?

Independent and professional, the Insurance Agents Registration Board (IARB) has been operating effectively in handling complaints against sales misconduct.  The Board has earned the trust and support of member companies, intermediary bodies, the Office of the Commissioner of Insurance (OCI), the Consumer Council and, most important of all, the insuring public as evidenced by their readiness to approach it to seek redress for their grievances.  To preserve the regulatory expertise and experience accumulated by the industry over the years, should the IIA consider retaining the services of most, if not all, of the professionals serving on the IARB?

The industry has reached a critical turning point.  We believe that the time has come to refine and upgrade the present regulatory framework, thus laying a firmer groundwork to sustain Hong Kong’s position as a world class financial centre.  We at the HKFI stand ready to continue our positive dialogue with the Bureau and the OCI to ensure the new regulatory framework will be strengthened on the basis of sensible legislation, protect consumers and help grow our industry.  On this note, we look forward earnestly to an early meeting with you and the OCI for an in-depth discussion on the various issues raised above.  In any case, there should be proper consultation with the industry on the final version of the draft legislation as and when it is ready.