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Allens Arthur Robinson

Focus: Insurance & Reinsurance Asia – August 2003

China's insurance industry

In brief: Lawyers Sarah Bergin and Marcia Ward provide an overview of the legal framework applicable to insurance in China, and set out the issues facing foreign insurers planning to extend their operations into China's insurance market. 

Since its World Trade Organisation (WTO) entry, China's insurance industry has experienced significant changes. It has gone from being a predominantly closed market in the early 1990s, to one in which foreign insurers now account for more than half of all insurance companies. The market has grown significantly, encouraged by legislative reform, restructuring of the social security system, high levels of saving and low penetration rates. However, in comparison to Western countries, the actual market size remains small and is a fairly low source of revenue.

An industry overview

China's insurance industry was nationalised in the 1950s and virtually closed for a decade during the Cultural Revolution. When it reopened in 1978, the state-owned People's Insurance Company of China (PICC) monopolised the industry. The PICC's dominance began to break down in 1988 when two domestic insurance companies, Ping An Insurance Company of China Ltd (PAIC) and China Pacific Insurance Company (CPIC) were granted regional licences. Today, there are a number of these regional domestic insurance companies competing for market share.

In 1990, China's Government, keen to participate in the General Agreement on Tariffs and Trade (GATT) announced it would open its insurance market to foreigners. AIG was the first to benefit, with a licence issued in 1992. From then on, foreign insurers continued to be licensed in limited numbers; however, the process of getting a licence was slow, and foreign insurers were permitted only to establish branches or joint ventures in specific regions.

The reinsurance field was also dominated by a state-owned insurer, the China Reinsurance Company, which held its monopoly until as late as mid-2002, when a foreign insurer was licensed.

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Foreign insurers participation

Although foreign insurers now account for more than half of all insurers in China, they take up only a small market share. Their growth has been hindered by geographic and product restrictions, as well as the requirement that each branch be capitalised at RMB 200,000,000 (US$24 million). This capital requirement has been a particular issue, because it reduces operational efficiencies in comparison to domestic insurers, who are able to get a national licence with a one-off capital payment.

Even with China's commitment to market opening, the fact remains that the current legal framework restricts foreign insurers' rights to underwrite in particular areas. This is all part of the phasing-in process of reform, which should be complete by 2004. However, at present, the legal framework contributes to protecting state and domestic companies' position in the market.

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The nature of the market

China's insurance market is currently small. It is underdeveloped, not only in terms of size but also in terms of products offered and basic infrastructure, with many places in China not even having insurance institutions.

Insurance generally is not a concept largely understood or adopted by the Chinese people, which explains the low insurance depth. However, in comparison to broader China, trends in urban centres are promising, with Shanghai enjoying an increase of around 42 per cent for insurance premium income in the year 2001 to 2002. Foreign insurers play an increasingly important role in Shanghai's insurance industry, in 2001 taking up 13.6 per cent of the city's total premium and 12 per cent of the life insurance premium. 

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Legislative and regulatory environment

On 18 November 1998, the State Council established the China Insurance Regulatory Commission (CIRC). Directly under the State Council, the CIRC is the sole regulator of China's insurance industry and meets China's WTO commitment to provide separate regulation for each service sector. The Insurance Association of China was established at the end of 2000 in Beijing. Although its strength as an industry association is still uncertain, its intended purpose is to coordinate and discipline the insurance sector.

The main contribution to insurance reform in China is the Insurance Law 1995. The Law provides a broad legal framework, which was intended to foster growth by providing rules relating to the formation and operation of insurance companies on the mainland. It was updated in 2002, with amendments effective January 2003 that mark a significant step forward in fully opening the market.

The Insurance Law focuses on two prime areas: contract and regulatory control. The contract aspect of the law details the rights and privileges of the consumer and insurer. The regulatory control aspect details the powers, responsibilities and accountability of insurers and industry bodies.

The Insurance Law 1995 and its amendment does not deal with foreign insurers in a substantial manner. The Law does, however, apply to them, with article 148 stipulating that the establishment of joint ventures, wholly foreign-owned enterprises and branches of foreign insurance companies will be governed by the Insurance Law, except where specifically provided for in other laws and regulations.

The recent amendments to the Insurance Law represent a shift to more market-oriented and policy-based regulation. For example, companies can now write their own clauses and decide premiums, whereas in the past CIRC dictated these conditions. The amendments enable CIRC to monitor the solvency capability of companies according to set standards, and provide better protection for the insured by placing legal obligations on companies to train and administer their agents.

To complement and provide detail for the Insurance Law, various regulations have been promulgated, including rules for the absorption of foreign equity by domestic companies, insurance brokers, insurance agents and foreign-invested insurance companies.

The Regulations of the People's Republic of China on Administration of Foreign-Invested Insurance Companies (the Regulations) is the primary regulation foreign investors should look to when establishing an insurance company in China.

The Regulations set out the criteria for foreign insurers seeking to operate in China and empower the CIRC to supervise, administer and grant licences for insurance companies.

Under the Regulations, a foreign insurer who intends to set up a joint venture, wholly foreign-owned enterprise or branch of an insurance company should have:

  • at least 30 years of experience in the insurance industry;
  • established a representative office in China for at least two years preceding the application; and
  • at least US$5 billion in assets in the year preceding its application.

The minimum registered capital for a joint venture or wholly foreign-owned enterprise is RMB 200,000,000 (US$24,150,000), or the equivalent in a freely convertible currency. This minimum amount must be actually paid in. Branches of foreign invested insurance companies must have operating funds of at least RMB 200,000,000 or the equivalent amount in a freely convertible currency as operational capital for the parent company.  These capital requirements are costly by international standards, effectively limiting the market in China to large, well-established international companies.  Reinsurance companies have even steeper capital requirements, needing RMB 300,000,000 or roughly US$35 million in capital.

Foreign-invested insurance companies are prohibited from operating both property and life insurance businesses at the same time in China. However, an exception to this rule has been created by the recent amendment, which allows property insurance companies to engage in cross-class operations in short-term health and casualty insurance products if permitted by CIRC.

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Insurance licenses

In addition to the substantial capital and experience requirements described above, the foreign investor must also:

  • be from a country or region that has a sound insurance regulatory system and where the company is already subject to effective regulation by the authorities of that country or region;
  • meet the solvency standards of the country or region where it is located;
  • have evidence that the authorities of its home country or region have agreed to its licence application in the People's Republic of China; and
  • meet other prudential conditions required by CIRC.

The application process to gain an insurance licence has a number of stages. Initially, a preliminary examination of the application is undertaken, with CIRC deciding to accept or deny it within six months of receipt. If the preliminary application is accepted, a formal application form will be issued, which the applicant must complete and submit within one year, together with the relevant documents. Once the formal application is submitted, it will be assessed and approved or denied within 60 days. If it is approved, a permit is issued. If either the preliminary or formal application is denied, CIRC must notify the applicant in writing and provide reasons.

Once the formal application is approved, the applicant must then register at the industry and commerce administration for a business licence. If the application is denied, however, an applicant may not reapply for six months.

For both foreign and domestic insurers, China's entry into the WTO has had a significant impact on CIRC's licensing practices in relation to them. Recent licensing trends reflect China's commitment to opening up the insurance sector; however, the significant increase in the number of licences being granted has left some unsettled. For foreign insurers, the primary concern is market saturation by their domestic counterparts, whose establishment costs are lower.

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Barriers to market development
  • Until recently, insurance companies were only allowed to channel their funds into severely restricted investment options, choking off sustainable growth. These restrictions have resulted in a significant proportion of insurance premiums being invested in either cash or bank savings. In comparison in the West, funds are commonly invested in stocks, which generate the returns necessary to cover pay-outs on premiums, as well as costs and profits. In an attempt to rectify this problem, the China Security Regulatory Committee (CSRC) has taken steps to allow insurance funds to enter share markets. However, these markets are unsophisticated and volatile, with few solid companies to invest in. They therefore have a limited attractiveness to insurers.
  • Company solvency is a major issue in China's insurance industry, with the current level of capital funds held by domestic insurers being low. The lack of solvency has been exacerbated by insurers' restricted investment options.  Recent changes in the law require greater transparency in regard to holdings and permit greater diversity of investment.
  • As competition in the market increased, domestic insurers quickly expanded their market share without much regard to quality and, in some cases, by using improper means, such as government interference. A lack of insurance professionals with knowledge and experience in insurance markets has further contributed to the problem; as has the history of state company monopoly, which has left a legacy of non-competitive services. However, as foreign insurers, with their customer-driven service mentality, enter the market, domestic insurers are being forced to lift their standards.
  • The low quality of services and lack of understanding by the general population of the role of insurance has led to a credibility crisis for China's insurance industry. Many have been reluctant to purchase policies, their scepticism encouraged by damaging reports in the news on the difficulty of receiving reimbursement. This reputation potentially affects foreign insurers, both positively and negatively: positively, in that they may be differentiated by their reliability, and negatively if they are perceived as being the same.
  • Also hindering market growth has been a delay in the development of a comprehensive legal environment for insurers. The drafting of insurance laws and regulations has lagged behind, with The Regulations of the PRC on Administration of Foreign-Invested Insurance Companies only released in 2002. Prior to this, the Insurance Law 1995 was the primary legislation regulating the industry; however, it does not deal comprehensively with foreign insurers, and was not updated till 2002.

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Conclusion

China's commitment to comply with its WTO obligations is genuine, with many reforms in the insurance industry having taken place since its accession. However, despite these reforms, the market remains underdeveloped and insufficiently regulated. The market remains dominated by state and domestic companies, which have the advantage of fewer restrictions on their operation.

Regardless of these challenges, foreign insurers continue to enter the market with the knowledge that reform is ongoing and industry growth of 12 per cent annually presents opportunities. New amendments to the Insurance Law that allow insurers more freedom to enter and conduct business in the market, and which allow property insurance companies to offer short-term health and casualty insurance products, are an indication the sector is moving towards international norms. However, some foreign insurers may prefer these norms to be realised before investing in China.

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