House of Representatives

Explanatory Memorandum

(Circulated by the authority of the Treasurer, the Hon J. B. Hockey MP)

Chapter 5 - Prudential standards and directions

Outline of chapter

5.1 Part 4 establishes the prudential supervision of the private health insurance industry, in particular, prudential standards and directions. Part 4 sets out:

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the ability of APRA to make prudential standards and give directions;

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the requirement for private health insurers to comply with prudential standards and directions and to notify APRA of any breach of prudential standards that is not minor or technical in nature, and of certain financial matters;

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how APRA may vary or revoke prudential standards and directions; and

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certain other matters and arrangements relating to directions.

5.2 Unless otherwise stated, all references in this Chapter relate to the Prudential Supervision Bill.

Summary of new law

5.3 Part 4 will simplify the existing legislative scheme by replacing the three standard-making powers currently in the PHI Act (solvency standards in Division 140, capital adequacy standards in Division 143 and prudential standards in Division 163) with a single prudential standard-making power. Bringing these three standard-making powers into one will also harmonise the legislation with APRA's existing prudential standard-making powers in relation to the ADIs, life insurers, general insurers and superannuation trustees.

5.4 The directions power will replace a number of powers currently in the PHI Act, to the extent that they have been exercisable by the Council:

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solvency directions under section 140-20;

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capital directions under section 143-20;

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directions under section 163-15 to comply with all or part of a prudential standard, or take specified action within a specified time, where the Council is satisfied that an insurer has breached a prudential standard or is likely to do so in a way that is likely to give rise to prudential risk; and

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general directions the Council can give under section 200-1 to require a private health insurer to modify its day to day operations (among other things).

5.5 The directions power in the (Prudential Supervision Bill) is based on directions powers APRA has in the Life Insurance Act; accordingly, it will promote harmonisation with other legislation administered by APRA in relation to financial sector entities.

Comparison of key features of new law and current law

Detailed explanation of new law

Division 1 - Introduction

Simplified outline of this Part

5.6 Private health insurers must comply with prudential standards made by APRA. A private health insurer must notify APRA if it becomes aware of a contravention by it of a prudential standard (other than a contravention that is merely of a minor or technical nature) or any other matter or occurrence that materially affects its financial position. APRA may, on certain grounds, give a private health insurer a direction that the insurer must comply with. [Part 4, Division 1, section 90]

Division 2 - Prudential standards

Prudential standards

APRA may make prudential standards

5.7 APRA may make prudential standards in writing relating to prudential matters. The standards must be complied with by private health insurers, or in relation to insurers. [Part 4, Division 2, subsection 92(1)]

5.8 The reference to the standards being complied with 'in relation to private health insurers' recognises that actuaries are required, under subsections 107(2) and 109(1), to perform 'statutory functions and duties' which include functions and duties under prudential standards.

5.9 Prudential matters is defined as matters relating to the conduct of the affairs of a private health insurer so as to keep the insurer in a sound financial position and not cause or promote instability in the Australian private health insurance system, and the conduct of the affairs of the insurer with integrity, prudence and professional skill. [Part 4, Division 2, subsection 92(2)]

The private health insurers to which a prudential standard applies

5.10 A prudential standard may impose requirements for all private health insurers, a specified class of insurers or one or more specified insurers. [Part 4, Division 2, subsection 92(3)]

Prudential standards may provide for APRA to exercise powers and discretions

5.11 APRA may exercise discretions under a standard, including in relation to approving, imposing, adjusting or excluding specific prudential requirements for particular insurers. As is the position under other legislation administered by APRA, the exercise of such discretion under a prudential standard will not be merits reviewable, although it will be reviewable in the Federal Court for an error of law. It will often be the case that, in exercising the power, APRA will adjust or exclude a provision of the standard to ensure that it applies in a way that is appropriate to the particular circumstances of that entity, and this will often facilitate the entity's business processes. In other cases an adjustment or exclusion may be necessary to give APRA certainty that the prudential requirements apply appropriately to protect policy holders, for example where there are prudential concerns, and such action may need to be taken urgently and with certainty that the insurer will comply with the adjusted requirements. [Part 4, Division 2, subsection 92(4)]

Variation and revocation of prudential standards

5.12 A standard can be varied or revoked by APRA in writing. [Part 4, Division 2, subsection 92(5)]

Prudential standards are legislative instruments (other than standards that apply to one or more specified insurers)

5.13 A prudential standard referred to in paragraph 92(3)(a) or (b) (that is, one applying to all, or a class of, private health insurers) or an instrument varying or revoking such a standard, is a legislative instrument. A standard or an instrument varying or revoking such a standard under paragraph 92(3)(c), is not a legislative instrument because it only applies to a specified insurer, or specified insurers. Therefore the statement that the standard is not a legislative instrument is not a substantive exemption from the Legislative Instruments Act but a statement of the 'status quo'. A decision to make, vary or revoke such a standard will be merits reviewable under section 168 of the Prudential Supervision Bill. [Part 4, Division 2, subsection 92(6)]

Prudential standards may provide for a matter by adopting etc. material from another instrument

5.14 A prudential standard may deal with a matter by referring to (with or without modification) another instrument or writing as in force or existing from time to time, whether or not the other instrument comprises a legislative instrument or provision of another Act. This is despite section 46AA of the Acts Interpretation Act 1901 and section 14 of the Legislative Instruments Act. [Part 4, Division 2, subsection 92(7)]

5.15 This will enable APRA's prudential standards to refer to and incorporate guidance and standards published by professional bodies as updated from time to time where appropriate, such as professional standards issued by the Actuaries Institute, even though these are not themselves legislative instruments. For example, the Council's current Appointed Actuaries Standard provides that an appointed actuary must prepare a financial condition report in accordance with Professional Standard 600: Financial Condition reports for Private Health Insurers, made by the Institute of Actuaries of Australia in June 2011, as in effect immediately before the commencement of this paragraph'. APRA's power to incorporate material will mean that APRA will not need to remake a prudential standard each time the Actuaries Institute updates its standard on financial condition reports for private health insurers.

Prudential standards may not do certain things

5.16 Prudential standards may not:

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create an offence or civil penalty;

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provide for powers of arrest, detention, entry, search or seizure;

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impose a tax;

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set an amount to be appropriated from the Consolidated Revenue Fund under an appropriation under the Prudential Supervision Bill; or

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amend the text of the Prudential Supervision Bill. [Part 4, Division 2, subsection 92(8)]

Delegation of power to make etc. prudential standards

5.17 Section 15 of the APRA Act allows APRA to delegate its powers to an APRA member or APRA staff member. However, in relation to the power to make, vary or revoke prudential standards, a delegation can only be to an:

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APRA member (within the meaning of the (APRA Act); or

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APRA staff member (within the meaning of the APRA Act) who is an executive general manager (or equivalent), executive general manager being the highest level of management within APRA other than the APRA members. [Part 4, Division 2, subsection 92(9)]

5.18 The delegation of powers is to an APRA Member or an APRA staff member who is an Executive General Manager level, which is the highest level within APRA below an APRA member. In practice, all prudential standards will ordinarily be considered in detail at meetings of APRA's executive group, which includes all APRA members and Executive General Managers, prior to being finalised. The ability to delegate to an Executive General Manager gives APRA some administrative flexibility, as there are only three APRA members, and the members are often required to travel overseas, and therefore delegation to an Executive General Manager may be required.

Additional matters in relation to standards that are not legislative instruments

5.19 A prudential standard under paragraph 92(3)(c) relating to one or more specified private health insurers, or a determination varying or revoking such a standard, applies from the day it is made or from a day it specifies. [Part 4, Division 2, subsection 93(1)]

5.20 If APRA makes, varies or revokes a prudential standard relating to one or more specified private health insurers, it must, as soon as practicable give a copy of the standard or variation, or notice of the revocation to each insurer to which it applies or will apply. [Part 4, Division 2, subsection 93(2)]

Compliance with prudential standards

5.21 Private health insurers must comply with prudential standards to the extent they apply to the insurer. [Part 4, Division 2, section 94]

Notice of breach of prudential standards or of other matters that materially affect financial position

5.22 A private health insurer commits an offence if it fails to notify APRA, in writing and as soon as practicable, if it becomes aware of a breach (other than a contravention that is merely of a minor or technical nature) of a prudential standard or anything that materially affects its financial position. The relevant penalty is 30 penalty units. [Part 4, Division 2, subsection 95(1)]

5.23 An insurer's notification to APRA must not include personal information about a person insured under a complying health insurance product referable to a health benefits fund conducted by the insurer, unless it relates to prudential matters about the insurer. [Part 4, Division 2, subsection 95(2)]

Division 3 - Directions

APRA's power to give directions

5.24 APRA may give a private health insurer a direction of a kind specified under section 97 if APRA reasonably believes that:

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the insurer has contravened an enforceable obligation within the meaning of the Prudential Supervision Bill, or a provision of the FS(CoD) Act (or direction or condition given under that Act - see subsection 4(2) of the Prudential Supervision Bill); or

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the insurer is likely to contravene an enforceable obligation or the FS(CoD) Act, in a way likely to create a prudential risk; or

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the direction is necessary in the interests of policy holders or prospective policy holders of the private health insurer. [Part 4, Division 3, paragraphs 96(1)(a), (b) and (c)]

5.25 APRA's decision to give a direction under section 96 is reviewable under section 168 if it is given on the basis of ground (a), (b) or (c) in subsection 96(1), which relate to contraventions or likely contraventions of relevant legislation or the direction being necessary in the interests of policy holders or prospective policy holders of the insurer.

5.26 APRA may also give a private health insurer a direction for a range of specific reasons related to preserving the interests of policy holders and the insurer's financial position, including:

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the insurer is, or is about to become, unable to meet its liabilities; or

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there is, or there might be, a material risk to the security of the insurer's assets; or

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there has been, or there might be, a material deterioration in the insurer's financial condition; or

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the insurer is conducting its affairs in an improper or financially unsound way; or

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the failure to issue a direction would materially prejudice the interests of policy holders or prospective policy holders of the insurer; or

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the insurer is conducting its affairs in a way that may cause or promote instability in the Australian private health insurance system. [Part 4, Division 3, paragraphs 96(1)(d) to (i)]

5.27 A direction would generally only be given to address a significant concern of a prudential nature affecting a private health insurer as a whole and not, for example, to address a concern of a consumer nature that has no prudential impact.

5.28 APRA's direction to a private health insurer must be in writing and specify the ground for which it is given. It may also specify the time or period during which it must be complied with. [Part 4, Division 3, subsections 96(2) and (3)]

The kinds of directions that may be given

5.29 The kinds of directions APRA may give a private health insurer are directions to do one or more of a range of specified activities. [Part 4, Division 3, subsection 97(1)]

5.30 These actions are specified in paragraphs 97(1)(a) to (v) and are:

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compliance with all or specified enforceable obligations or with the FS(CoD) Act (this includes directions or conditions given under that Act - see subsection 4(2) of the Prudential Supervision Bill);

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to remove an officer of the insurer;

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to ensure an officer of the insurer does not take part in the management or conduct of the business of the insurer except as permitted by APRA;

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to appoint a person as an officer of the insurer for such term as APRA directs;

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to terminate the appointment of the appointed actuary of the insurer and to appoint another actuary to hold office for such term as APRA directs;

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not to give financial accommodation to any person;

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not to issue or renew any policy, undertake any liability under any policy or collect any premium;

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not to issue or renew any policy, undertake any liability under any policy or collect any premium;

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not to borrow any amount;

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not to accept any payment on account of share capital, except payments in respect of calls that fell due before the direction was given;

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not to repay any amount paid on shares, and not to pay any dividends;

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not to discharge any policy or other liability;

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not to transfer any asset;

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not to pay or transfer any amount to any person, or create an obligation (contingent or otherwise) to do so;

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not to undertake any financial obligation on behalf of any other person;

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to hold, or otherwise deal in a specified way, with a specified amount of capital;

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to provide, or further provide, in its accounts for the purposes of the Prudential Supervision Bill, a specified amount or an amount determined in a specified way in respect of its liabilities or the value of a specified asset of the insurer;

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to order an actuarial investigation of the affairs of the insurer, at the expense of the insurer, by an actuary chosen by APRA;

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to do, or to refrain from doing, an act that relates to the way in which the affairs of the insurer are to be conducted or not conducted;

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to modify the rules of the insurer;

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to take specified action to ensure, as far as practicable, that the insurer will be able to meet the liabilities of a health benefits fund conducted by the insurer out of the assets of the fund as they become due;

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to take specified action to ensure, as far as practicable, that assets of a health benefits fund conducted by the insurer will provide adequate capital for the conduct of the business of the fund in accordance with the Prudential Supervision Bill and in the interests of the policy holders of the fund. [Part 4, Division 3, subsection 97(1)]

5.31 A direction may deal with only some of the matters in paragraphs 97(1)(a) to (v), a particular class of matters or make different provision with respect to different matters, or classes of matters. [Part 4, Division 3, subsection 97(3)]

5.32 A direction related to the transfer or payment of money under paragraph 97(1)(m) and (n) does not apply to the payment or transfer of money under a court order or a process of execution. [Part 4, Division 3, subsection 97(2)]

5.33 As noted above, APRA would generally only give a direction in response to a serious prudential concern. The kinds of directions that may be given need to be seen in this light. For example, a direction not to issue a policy or to refrain from providing financial accommodation would normally only be given to prevent the insurer from increasing its exposures where there is a serious financial concern that affects the interests of policy holders. For example, the financial position of the health benefits fund(s) may be such that APRA may be considering the appointment of an external manager, with the direction being an interim step to halt any further exposures and protect the interest of existing policy holders. It is not intended that the power to give a direction not to issue a policy or grant financial accommodation, or any similar power, be used to micromanage the business of the insurer or address issues of a consumer nature. The concern would need to be general and relate to the overall position or management of the insurer or a health benefits fund.

Power to comply with a direction

5.34 A private health insurer may comply with a direction under section 96 despite anything in its constitution or business rules, or contract or arrangement to which it is a party. [Part 4, Division 3, section 98]

Varying or revoking a direction

5.35 If APRA considers it is no longer necessary or appropriate, APRA may, by notice in writing, vary or revoke a direction given under section 96 to a private health insurer. [Part 4, Division 3, section 99]

When a direction ceases to have effect

5.36 A direction under section 96 ceases to have effect if APRA revokes it under section 99. [Part 4, Division 3, section 100]

Directions not grounds for denial of obligations

5.37 If a private health insurer is subject to an APRA direction, and is party to a contract (whether the contract is subject to Australian or foreign law), neither the insurer, nor another party to the contract, may:

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deny obligations under the contract or accelerate any debt under the contract; or

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close out any transaction relating to the contract. [Part 4, Division 3, subsections 101(1) and (2)]

5.38 If APRA's direction prevents the insurer fulfilling its obligations under the contract (other than a direction referred to in paragraph 97(1)(l) not to discharge any policy or other liability) the other party is relieved from contractual obligation owed to the insurer (subject to any orders made under subsection 101(4)). [Part 4, Division 3, subsection 101(3)]

5.39 A party to such as contract may apply to the Federal Court for an order relating to a direction's effect on the contract. The order may deal with the requirement of a party to fulfil a contractual obligation or to take some other action, considering any contractual obligations performed before the order was made. The Federal Court's order must not require a person to take any action that would contravene the direction, or another direction made under section 96. [Part 4, Division 3, subsection 101(4)]

Supply of information about directions

Power to publish notice of directions in Gazette

5.40 APRA may publish notice of any direction given under section 96 in the Gazette. If it does, the notice must include details of the insurer and the direction. [Part 4, Division 3, subsection 102(1)]

Requirement to publish notice of variation or revocation of certain directions in Gazette

5.41 If APRA publishes notice of a direction which it later varies or revokes, APRA must publish in the Gazette notice of the variation or revocation as soon as practicable. [Part 4, Division 3, subsection 102(2)]

Requirement to provide information about directions to Minister

5.42 APRA must comply with a request from the Minister to provide information about a direction to a particular insurer or any directions made in a specific period. [Part 4, Division 3, subsection 102(3)]

Power to inform Minister of directions

5.43 At any time, APRA may provide the Minister with any information it considers appropriate about any directions, or variations to or revocations of directions. [Part 4, Division 3, subsection 102(4)]

Requirement to inform Minister of revocation of direction if informed of making direction

5.44 If APRA informs the Minister about a direction which it later varies or revokes, APRA must notify the Minister of this as soon as practicable after the revocation. [Part 4, Division 3, subsection 102(5)]

Failure to comply with this section does not affect the validity of directions etc.

5.45 A failure to comply with a requirement in section 101 does not affect the validity of a direction, or revocation of a direction. [Part 4, Division 3, subsection 102(6)]

Secrecy requirements

5.46 Information about directions and revocations of directions is subject to secrecy requirements in Part 6 of the APRA Act, unless the information has been published in the Gazette under section 102 of the Prudential Supervision Bill. [Part 4, Division 3, section 103]

Non-compliance with a direction

5.47 It is an offence for a private health insurer to fail to comply with a direction given to the insurer with a penalty of 30 penalty units for an individual. [Part 4, Division 3, subsection 104(1)]

5.48 If a private health insurer commits such an offence, it does so in respect of the first day the offence was committed and each subsequent day the insurer continues to commit the offence. [Part 4, Division 3, subsection 104(2)]

5.49 If an officer commits such an offence, and their duties include ensuring compliance with APRA directions, the officer does so in respect of the first day the offence was committed and each subsequent day the insurer continues to commit the offence. [Part 4, Division 3, subsection 104(3)]