UK captive & ILS reform plans seen as credit-neutral by Fitch, though longer-term risks may emerge

Fitch Ratings, a credit rating agency, says the UK government’s proposed overhaul of rules governing insurance-linked securities (ILS) and captive insurance will not immediately affect the credit quality of London market insurers.

While the current regulatory framework remains in place until at least 2027, Fitch warns that over time, these changes could lead to a shift in risk toward less transparent parts of the financial system.

The UK’s reform initiative is aimed at re-establishing the country as a competitive hub for ILS and captive insurance, in response to strong competition from other jurisdictions such as Bermuda and the United States for ILS, and France and Canada for captives.

The announcement comes as part of a broader push to stimulate growth and boost the international standing of the UK financial services sector, including parallel regulatory changes in the banking industry.

According to Fitch, the reforms are unlikely to drive a significant increase in insurers’ risk appetite. Most of the business the UK stands to gain is expected to be activity currently conducted in other jurisdictions, rather than newly created risk. Insurers will likely maintain a role as facilitators or arrangers in the structures, retaining some influence over underwriting decisions and risk management standards.

Fitch notes that the proposed changes would ease capital requirements for ILS vehicles and captive insurers, streamline authorisation procedures, reduce fees, and lighten ongoing reporting obligations.

The Financial Conduct Authority (FCA) and Prudential Regulation Authority (PRA) are expected to develop specific regulatory guidelines for captives, with public consultations planned for 2026 and implementation slated for mid-2027.

Despite the anticipated benefits in efficiency and access, Fitch cautions that transferring risk outside the fully regulated insurance sector could lead to a build-up of exposures that are more difficult to monitor.

As institutional investors take on risk through ILS vehicles and corporates retain more risk through captives, the shift could gradually weaken the transparency and risk aggregation oversight that currently exists within the core insurance industry.

A central element of the proposed framework is the planned distinction between direct-writing captives, which insure the risks of their own corporate groups, and reinsurance captives, which typically assume those risks through an intermediary authorised insurer. Reinsurance captives would be subject to a lighter regulatory regime, as they do not bear direct policyholder obligations.

The reforms also broaden the scope of permissible ILS activities. Transformer vehicles would be able to assume risk from multiple parties, including those outside the insurance sector.

Protected cell companies, meanwhile, could be structured to take on risk from more than one client, enabling smaller companies to access risk transfer mechanisms without establishing their own standalone captives. Fitch notes that while this could improve flexibility, it might also increase the risk of cross-exposure between participants if not managed carefully.

Certain restrictions will remain in place under the new regime. Captives domiciled in the UK will not be permitted to write life insurance policies directly, due to concerns about long-term liabilities and regulatory complexity.

Exceptions may be allowed for limited products such as group life term coverage, pending further review. Likewise, captives will be prohibited from writing compulsory insurance lines like motor or employer’s liability on a direct basis, although these may be covered on a reinsurance basis through an authorised insurer.

Fitch concludes that while the reforms are unlikely to alter insurer credit profiles in the near term, they could present challenges over time if risks migrate to sectors with less regulatory oversight, making it harder for market participants and supervisors to accurately assess risk concentrations.

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