Order on the Calculation of the Solvency Capital Requirement Using an Internal Model for Group 1 Insurance Undertakings

Order on the Calculation of the Solvency Capital Requirement Using an Internal Model for Group 1 Insurance Undertakings and Others.1)

Pursuant to Section 154, paragraph 6, Section 166, paragraph 10, and Section 316, paragraph 1, of Act No. 718 of 13 June 2023 on Insurance Undertakings, it is hereby prescribed:

Chapter 1 General Provisions Scope and Definitions

Section 1. This Order applies to Group 1 insurance undertakings and groups or groups of undertakings covered by Section 166, paragraphs 1 and 2, of the Act on Insurance Undertakings.

Paragraph 2. The calculation of the solvency capital requirement by a Group 1 insurance undertaking using an internal model shall, in addition to the rules in Articles 222-247 of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II), be carried out in accordance with Sections 3-19.

Paragraph 3. The calculation of the solvency capital requirement for the group or group of undertakings using a group-internal model shall, in addition to the rules in Articles 347-350 of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II), be carried out in accordance with Section 20.

Section 2. In this Order, the following definitions apply:

1. Risk mitigation techniques: All techniques that enable insurance undertakings to transfer all or part of their risks to another party.

2. Expected probability distribution: A mathematical function that assigns a probability to a comprehensive set of mutually exclusive future events occurring.

3. Risk measure: A mathematical function that assigns a monetary amount to a given expected probability distribution and increases monotonically with the risk exposure associated with that expected probability distribution.

Chapter 2 Approval and Amendments Approval of Internal Models

Section 3. A Group 1 insurance undertaking wishing to use an internal model for the calculation of the solvency capital requirement shall apply to the Danish Financial Supervisory Authority (Finanstilsynet) for approval thereof.

Paragraph 2. The use of an internal model shall be approved when the following conditions are met:

1. The Group 1 insurance undertaking has effective procedures for the identification, measurement, monitoring, management, and reporting of risks.

2. The Group 1 insurance undertaking has submitted documentation regarding the internal model in accordance with Section 4.

3. The Group 1 insurance undertaking meets the requirements in Sections 8-13.

4. The board of directors of the Group 1 insurance undertaking has adopted and submitted a policy for changes to the internal model, pursuant to Section 15, which has been approved by the Danish Financial Supervisory Authority.

Section 4. In addition to the documentation standards in Articles 243-246 of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II), the documentation regarding the internal model of the Group 1 insurance undertaking shall include the following:

1. A detailed description of the theory, assumptions, and mathematical and empirical basis on which the internal model is built.

2. A description of the model's weaknesses and the cases where the model is not expected to function effectively.

3. A description of how the solvency capital requirement calculated using the internal model reflects the company's risk profile to a greater extent than the calculation using the standard formula.

4. A description of whether the internal model is established based on the assumption of the company's going concern status, and whether the model takes into account all quantifiable risks of the company, covering the risk the company has assumed and expects to assume over the next 12 months based on the risk measure underlying the standard formula.

Decision of the Danish Financial Supervisory Authority

Section 5. The Danish Financial Supervisory Authority's decision regarding the application for approval of an internal model shall be communicated to the Group 1 insurance undertaking no later than 6 months after receipt of a complete application.

Paragraph 2. After approving the internal model, the Danish Financial Supervisory Authority may order the company to calculate an estimate of the solvency capital requirement as calculated using the standard formula.

Changes to an Internal Model

Section 6. A Group 1 insurance undertaking may only make changes to an internal model approved by the Danish Financial Supervisory Authority in accordance with the policy for changes to the internal model approved by the board of directors, pursuant to Section 15.

Paragraph 2. Changes to the internal model specified in the policy for changes to the internal model as major changes, pursuant to Section 15, paragraph 2, shall be approved by the Danish Financial Supervisory Authority before they can take effect. When applying for approval of a major change, the company shall submit documentation regarding the content and background of the change.

Return to the Standard Formula

Section 7. A Group 1 insurance undertaking that, after approval of an internal model by the Danish Financial Supervisory Authority, wishes to calculate the solvency capital requirement using the standard formula, shall apply for the Danish Financial Supervisory Authority's approval thereof.

Chapter 3 Requirements for the Internal Model Use Test

Section 8. A Group 1 insurance undertaking shall, in its application and in the case of major changes to the model, document that the internal model is commonly used and plays a significant role in the company's business management, pursuant to Articles 222-227 of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II), particularly in relation to the following:

1. The company's risk management system and decision-making processes.

2. The company's processes for assessing and allocating economic capital and solvency capital, including the company's assessment of its own risk and solvency.

Paragraph 2. A Group 1 insurance undertaking shall furthermore, in its application and in the case of major changes to the model, document that the frequency with which the solvency capital requirement is calculated corresponds to the frequency with which the company uses the internal model for the other purposes mentioned in paragraph 1, items 1 and 2.

Statistical Quality Standards

Section 9. In addition to Article 237 of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II), a Group 1 insurance undertaking shall ensure that the internal model meets the following criteria:

1. The assumptions underlying the internal model must be justifiable to the Danish Financial Supervisory Authority.

2. The methods used to calculate the expected probability distribution must be based on appropriate, applicable, and relevant actuarial and statistical techniques, as well as current and credible information and realistic assumptions, pursuant to Articles 228-230 of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II), and must correspond to the methods used for the calculation of insurance technical provisions, pursuant to rules on the valuation of assets and liabilities, including insurance technical provisions issued pursuant to Section 164, paragraph 3, of the Act on Insurance Undertakings.

3. The data used in the internal model must be accurate, complete, and appropriate, pursuant to Article 231 of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II). The company must update the data used in the calculation of the expected probability distribution at least once a year.

4. Regardless of the calculation method used for the expected probability distribution, the internal model's ability to rank risks must be sufficient to ensure that it is commonly used and plays a significant role in the company's business management, pursuant to Articles 222 and 232 of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II). The internal model must cover all material and quantifiable risks, pursuant to Article 233 of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II), to which the company is exposed and which at minimum cover the risks covered by the standard formula.

5. The internal model must take into account the specific risks associated with financial guarantees and any material contractual options, as well as risks associated with clauses that both policyholders and the company may exercise, including the potential consequences of future changes in the financial and non-financial terms for the exercise of these clauses.

6. The internal model must take into account all expected payments to policyholders and beneficiaries, whether or not the insurance contract contains a guarantee for these payments.

Paragraph 2. A Group 1 insurance undertaking may furthermore choose to have the internal model take into account one or more of the following:

1. Diversification effects within and across risk categories, provided the Danish Financial Supervisory Authority assesses that the system used to measure these interdependencies is adequate, pursuant to Article 234 of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II).

2. The effect of risk mitigation techniques, pursuant to Article 235 of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II), when the model takes into account credit risk and other risks associated with the use of risk mitigation techniques.

3. Future management actions, pursuant to Article 236 of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II), which management can reasonably be expected to take under certain circumstances.

Risk Measure and Calibration Standards

Section 10. A Group 1 insurance undertaking may use a different risk measure and time horizon in the internal model than the risk measure and time horizon underlying the standard formula, provided that the results obtained using the internal model can be used by the company to calculate the solvency capital requirement in a manner that ensures policyholders and beneficiaries a level of protection equivalent thereto, pursuant to Article 238, paragraph 1, of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II).

Paragraph 2. A Group 1 insurance undertaking shall, based on the risk measure and time horizon underlying the standard formula, derive the solvency capital requirement directly from the expected probability distribution resulting from the use of the internal model.

Paragraph 3. The Danish Financial Supervisory Authority may permit the use of approximations for calculating the solvency capital requirement, pursuant to Article 238, paragraphs 2-4, of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II). In such cases, the company must demonstrate to the Danish Financial Supervisory Authority that policyholders are secured a level of protection equivalent to the level of protection in the standard formula.

Paragraph 4. The Danish Financial Supervisory Authority may order the company to use the internal model on relevant reference portfolios and to use assumptions based on external data, with the aim of verifying the calibration of the internal model and controlling that the model's specifications are in accordance with generally accepted market practice.

Allocation of Profits and Losses

Section 11. A Group 1 insurance undertaking shall, at least once a year, investigate the causes of profits and losses within each significant business unit.

Paragraph 2. The Group 1 insurance undertaking must demonstrate how the categorization of risks used in the internal model explains the causes of profits and losses, pursuant to Article 240 of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II). The categorization of risks and the allocation of profits and losses must reflect the company's risk profile.

Validation

Section 12. In addition to the rules in Articles 241 and 242 of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II), a Group 1 insurance undertaking shall regularly validate the internal model in accordance with paragraphs 2-4.

Paragraph 2. Validation of the internal model includes monitoring the model's functioning, reviewing whether the model specifications remain appropriate, and testing the model's results compared to previously realized results.

Paragraph 3. The validation of the internal model must include an effective statistical process that enables the Group 1 insurance undertaking to demonstrate to the Danish Financial Supervisory Authority that the calculated capital requirements are sufficient, as well as to perform an analysis of the model's stability, test the sensitivity of model results to changes in the central underlying assumptions, and assess whether the data used in the internal model are accurate, complete, and appropriate.

Paragraph 4. The statistical methods used must test the appropriateness of the expected probability distribution in comparison with previous losses and in relation to all material new data and information related thereto.

Chapter 4 External Models and Data

Section 13. A Group 1 insurance undertaking may use a model prepared by a third party or data for use in the internal model delivered by a third party, subject to Article 247 of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II).

Paragraph 2. The use of external models and data does not exempt the Group 1 insurance undertaking from fulfilling the conditions in Sections 7-11.

Chapter 5 Failure to Comply with Requirements

Section 14. If a Group 1 insurance undertaking establishes that its internal model does not meet the requirements in Sections 8-12, the company must immediately submit a plan to the Danish Financial Supervisory Authority on how the company will ensure compliance with these requirements. The plan must include an explanation of how the company will ensure compliance with the requirements and a time horizon for doing so.

Paragraph 2. The Danish Financial Supervisory Authority may set a different time horizon if the Authority assesses that the time horizon set by the company is not appropriate.

Paragraph 3. If the Group 1 insurance undertaking fails to implement the plan within the specified or Danish Financial Supervisory Authority-set time horizon, pursuant to paragraphs 1 and 2, the Danish Financial Supervisory Authority may require the company to calculate the solvency capital requirement in accordance with the standard formula in the future.

Paragraph 4. If the Group 1 insurance undertaking assesses that the consequences of failing to comply with the requirements in Sections 8-12 are immaterial, the company must instead submit documentation thereof to the Danish Financial Supervisory Authority in lieu of a plan pursuant to paragraph 1.

Chapter 6 Policy for Changes to the Internal Model

Section 15. The Danish Financial Supervisory Authority shall approve a Group 1 insurance undertaking's policy for changes to the internal model upon the company's application for the use of an internal model. The Danish Financial Supervisory Authority shall furthermore approve all subsequent changes to the policy.

Paragraph 2. The policy must include a specification of what constitutes minor and major changes to the internal model.

Chapter 7 Board of Directors' Responsibility

Section 16. The board of directors of a Group 1 insurance undertaking shall:

1. Approve the application for the use of an internal model, as well as applications for approval of subsequent major changes to the internal model, before these are submitted to the Danish Financial Supervisory Authority,

2. Implement systems that ensure the internal model functions correctly, and

3. Ensure that the internal model's structure and functioning are always appropriate, and that the internal model reflects the company's risk profile.

Chapter 8 Special Rules for Partial Internal Models

Section 17. A Group 1 insurance undertaking may use a partial internal model to calculate one or more of the following:

1. Risk modules or sub-modules included in the primary solvency capital requirement.

2. Capital to cover operational risk.

3. The adjustment for the loss-absorbing capacity of insurance technical provisions and deferred tax assets.

Section 18. The Danish Financial Supervisory Authority shall approve an application for the use of a partial internal model when the conditions in Section 3, paragraph 2, are met, and the following additional conditions are met:

1. The Group 1 insurance undertaking has demonstrated the limited scope of the model.

2. The model is structured so that it can be fully integrated into the standard formula, pursuant to Article 239 of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II).

Section 19. In assessing an application to use a partial internal model that only covers certain sub-modules of a given risk module, some of the Group 1 insurance undertaking's business units within a specific risk module, or a combination thereof, the Danish Financial Supervisory Authority may order the company to prepare a transition plan for expanding the scope of application of the partial internal model, if the Authority assesses that the company's risk profile deviates significantly from the assumptions in the standard formula.

Paragraph 2. The transition plan must include a description of how the company intends to expand the model's scope of application to other sub-modules or business units with the aim of ensuring that the model covers the majority of the company's insurance business in relation to the specific risk module. The transition plan must also specify a time horizon for the expansion of the partial internal model.

Paragraph 3. The Danish Financial Supervisory Authority may set a different time horizon if the Authority assesses that the time horizon set by the company, pursuant to paragraph 2, second sentence, is not appropriate.

Chapter 9 Special Provisions for Group-Internal Models

Section 20. Sections 3-19 apply mutatis mutandis to undertakings covered by Section 166, paragraph 1 or 2, of the Act on Insurance Undertakings when using an internal model for the calculation of the solvency capital requirement for the group or group of undertakings.

Paragraph 2. The Danish Financial Supervisory Authority may only approve an internal model for a group or group of undertakings that has companies located in several Member States when the Danish Financial Supervisory Authority has been designated as the group supervisor by the supervisory authorities of the affected Member States.

Chapter 10 Penal Provisions and Entry into Force Penal Provisions

Section 21. Violation of Section 3, paragraph 1, Section 6, paragraph 1, Section 7, Section 9, paragraph 1, Section 11, paragraph 2, Section 12, Section 14, paragraphs 1 and 4, and Section 16, item 2, shall be punishable by a fine.

Paragraph 2. Companies and other legal persons may be subject to criminal liability pursuant to the rules in Chapter 5 of the Danish Penal Code.

Entry into Force

Section 22. This Order shall enter into force on 1 January 2025.

Paragraph 2. Order No. 1165 of 31 October 2017 on the calculation of the solvency capital requirement using an internal model for Group 1 insurance undertakings and others is repealed.

Danish Financial Supervisory Authority, 5 December 2024

Louise Mogensen / Line Bergmann

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1. The Order contains provisions implementing parts of Directive 2009/138/EC of the European Parliament and of the Council of 25 November 2009 on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II), OJ 2009, No. L 335, p. 1, and Directive 2014/51/EU of the European Parliament and of the Council of 16 April 2014 amending Directives 2003/71/EC and 2009/138/EC and Regulations (EC) No 1060/2009, (EU) No 1094/2010 and (EU) No 1095/2010 as regards the powers conferred on the European Supervisory Authority (European Insurance and Occupational Pensions Authority) and the European Supervisory Authority (European Securities and Markets Authority), OJ 2014, No. L 153, p. 1.

Act Series A 2024 Published on 10 December 2024 5 December 2024. No. 1428. Ministry of Industry, Business and Financial Affairs, Danish Financial Supervisory Authority, Ref. No. 24-019437 CQ003078