The European Union’s Bank Recovery and Resolution Directive, designed to prevent taxpayers from having to rescue failing banks as they did during the 2008-09 financial crisis, took effect in January 2015. However, a critical deadline fell at the start of this year: EU member states must create ‘bail-in’ provisions under which shareholders and creditors of insolvent financial institutions may be obliged to contribute to the cost of their recapitalisation or winding up.




The directive does not specify which liabilities may be covered by the bail-in powers awarded to national regulators, instead indicating those excluded: certain deposits, covered bonds, holdings of client money or assets, fiduciary liabilities, short-term debts of non-affiliated EU institutions, as well as liabilities to employees, certain trade creditors and tax and social security authorities. The exclusions include investment fund assets. Once confirmed, detailed regulatory technical standards from the European Banking Authority should provide greater clarity.

In practice, this means that deposits greater than €100,000 in insolvent banks, as well as other kinds of unsecured liabilities, may be forcibly converted into equity to provide them with the capital needed to avoid a taxpayer bail-out. Shifting the risk of financial failures from member states and EU bail-out funds to customers of institutions throws a sharp spotlight on the guarantees enshrined in Luxembourg’s policyholder protection structure.

Luxembourg’s insurance law requires that insurers must deposit assets matching their liabilities with a custodian bank approved by the Commissariat aux Assurances, the industry regulator, which must then green-light the depositary agreement. This ‘Triangle of security’ ensures that client assets are legally separated from those of the insurance company’s shareholders and creditors, and thus off-limits as part of a bail-in, while the custodian bank must also segregate and protect life assurance clients’ assets. They also enjoy priority over other creditors if an insurance company becomes bankrupt.

More broadly, life assurance clients are also protected by the provisions of the EU’s Solvency II Directive, which took effect on January 1 and aims to ensure that insurance and reinsurance companies maintain the financial strength to survive turbulent economic conditions and financial markets. So companies must hold capital to match their risks, meet new standards of governance and risk management, and report in greater detail to customers and supervisory authorities.

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