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© 2013 International Monetary Fund

May 2013

IMF Country Report No. 13/145

Nigeria: Publication of Financial Sector Assessment Program Documentation—Detailed Assessment of Observance of Insurance Core Principles

This Detailed Assessment of Observance of Insurance Core Principles for Nigeria was prepared by a staff team of the International Monetary Fund as background documentation for the periodic consultation with the member country. It is based on the information available at the time it was completed in May, 2013. The views expressed in this document are those of the staff team and do not necessarily reflect the views of the government of Nigeria or the Executive Board of the IMF.

The policy of publication of staff reports and other documents by the IMF allows for the deletion of market-sensitive information.

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International Monetary Fund

Washington, D.C.

Front Matter Page

Financial Sector Assessment Program Update

Nigeria

Insurance Core Principles

Detailed Assessment of Observance

May 2013

International Monetary Fund

Monetary and Capital Markets Department

The World Bank

Financial Sector Vice Presidency

Africa Region Vice Presidency

Contents

• Glossary

• Executive Summary

• I. Key Findings and Recommendations

  • A. Introduction

  • B. Information and Methodology Used for Assessment

  • C. Overview—Institutional and Market Structure

  • D. Preconditions for Effective Insurance Supervision

  • E. Main Findings

  • F. Recommendations and the Authorities’ Responses

• II. Detailed Assessment

• Tables

• 1. Total Assets of Insurance Firms, 2006–2011

• 2. Gross Written Premium, 2007–2011

• 3. Non-life Insurance Development Metrics in 2010

• 4. Foreign Ownership of Insurers in 2010

• 5. Market Share of the Top Five and Ten Non-life Insurers, 2006–2010

• 6. Market Share of the Top Ten Non-life Insurers, 2010

• 7. Market Share of the Top Five and Ten Life Insurers, 2006–2010

• 8. Market Share of the Top Ten Life Insurers, 2010

• 9. Level of Retention of the Non-life Insurers, 2010

• 10. Level of Retention of the Life Insurers, 2006–2010

• 11. Asset Mix of Insurers’ Investments, 2011

• 12. Market Capitalization of Listed Insurers, July 2012

• 13. Summary of Observance of the Insurance Core Principles

• 14. Recommendations to Improve Observance of ICPs

• 15. Detailed Assessment of Observance of the Insurance Core Principles

• Figures

• 1. Distribution of Non-life Business

• 2. Distribution of Life Business

Glossary

Executive Summary

1. Insurance activity in Nigeria is regulated by two Acts and supervised by the National Insurance Commission. The Insurance Act, No. 1 of 2003 governs the licensing and the operation of insurers, reinsurers, intermediaries, and other providers of related services. The National Insurance Commission Decree, No. 1 of 1997 established the National Insurance Commission (NAICOM) as the supervisory institution with the power of inspection, remedial and enforcement actions, and composition of fines. NAICOM is funded by industry levy and government grants, 50 percent of which is for operational purposes, 30 percent for upgrading industry capacity and 20 percent for industry development and compensation. Insurers must be established as limited liability companies under the Companies and Allied Matters Act, 1990.

2. The insurance sector is an underdeveloped part of the Nigerian financial sector with assets less than 2 percent of GDP. Assets of the life business are about half of the assets of the non-life sector, reflecting the low level of activity in savings and investment insurance products. In terms of gross written premium, the insurance sector grew at an average rate of 23 percent from 2001 to 2010 but remains very small. The total premium income was ₦201 billion in 2010¹, representing 0.7 percent of GDP or only just above a tenth of the average penetration of the OECD countries. The gross written premium is estimated to be ₦232 billion in 2011.

3. The substantial increase in the minimum capital requirements in 2007 led to a reduction from 104 to 60 insurers in 2008. Further market consolidation, albeit at a lower scale, is expected in the coming months as a result of the banking regulation that requires banks to divest their non-banking activities, including insurance, by April 2012.² Non-life insurance is more developed than life insurance. All non-life lines of business are offered, and their market share is balanced between motor, marine and aviation and property. Traditional life insurance is offered, of which around 70 percent corresponds to group life. However, modern life products, such as critical illness or inflation indexed benefits, are not readily available.

4. NAICOM has made a lot of effort over the past five years to improve the regulatory environment. Following the recapitalization of insurers and reinsurers in 2007 aimed at eliminating unprofitable and insolvent companies, NAICOM has upgraded its regulatory requirements, including a voluntary code on corporate governance, operational guidelines, risk management framework, KYC and AML/CFT requirements, and the adoption of IFRS. When fully implemented, these initiatives will significantly improve the regulatory environment for the industry. A critical success factor is to provide NAICOM officers with the necessary technical knowledge and supervisory skills suitable for the new regime.

5. The legal status of the guidelines issued by NAICOM should also be clarified. NAICOM has the power under the law to make regulations and issue guidelines. The issuance of regulations is subject to the minister’s approval while the issuance of guidelines is not. NAICOM has issued a number of significant prudential requirements in the form of guidelines, such as minimum capital, technical provisions, investment limits and risk management. It is important to have legal certainty on the level of enforceability of the guidelines.

6. The solvency regime, valuation and the reserve requirements need to be upgraded to capture the nature of risk inherent in each insurer. Current technical provisions and solvency margins are factor-based without regard to the nature of risks. The basis of estimating liabilities is left to the insurers or actuaries in the case of life business. The regime is in urgent need of revamping to become commensurate with the intended move toward a risk-based supervision framework.

7. Poor accounting and auditing practices results in supervisors spending too much time in verifying the accuracy of financial data. Supervisors spend more time verifying data than analyzing them. This not only hinders effective supervision, but also timely disclosure of information to policyholders and the market in general. NAICOM should collaborate with the FRC to improve the reliability of the audited financial statements, so that supervisors are able to focus more on both quantitative analysis and qualitative aspects of supervision. To promote proper governance, NAICOM should take insurers and directors to task for submitting inaccurate information.

8. Given the existing premium volume, the high capital requirements present a challenge to the attractiveness of the sector. Minimum capital requirements are high compared to other developing countries. For instance, countries under a Solvency I regime usually require for insurers a minimum capital of between US$ 4 and 10 million. Current Nigerian minimum capital requirements are three to six times higher. Except for the largest insurers, the return on equity is low as a result of low premium volume and high capital base. While the high capital is sensible to ensure professionalism in the industry, there is a need to study the appropriateness of the capital requirement to balance risk, return and market development. The minimum paid-up capital should be evaluated when introducing risk-based capital so that capital adequacy will reflect the risks that the insurer takes on.

9. Several insurers are in urgent need of evaluating their business viability. Some insurers need capital injection to comply with solvency requirements. Few insurers have made profits for 2011 according to the unofficial numbers available to NAICOM as of September 2012. The drop in stock prices of over 60 percent since 2007 has affected investments in the insurance sector resulting in several publicly traded insurers losing all share premia and are currently trading at nominal value or the minimal share value required for listing.

10. Government is actively pursuing policy to address the need for the sector to grow; however, enforcement of compulsory insurance is suboptimal. There are six classes of compulsory insurance but enforcement is weak. More effective enforcement will provide a substantial stable premium income for the industry. NAICOM recognizes this and has been working with other relevant authorities to strengthen enforcement. Under this initiative, a motor insurance database will be launched in the coming months, aiming to stamp out rampant fake motor insurance certificates, by providing a quick and easy way for the enforcement agency and customers to verify the authenticity of insurance certificates.

11. Sufficient investment instruments exist to cover current short term insurance liabilities, but, as the annuities and long term insurance markets develop, there will be a need for longer term investment instruments. Both life and non-life companies have similar investment portfolios. The asset composition of insurers consists of short-term money market and bank deposits (30 percent), stock and private debentures (another 30 percent) and real estate, loans and government paper (40 percent). The need for liquid assets reflects the short duration of the existing liabilities in both non-life and life. As the occupational pension system matures, an increase in annuities is expected that will require long term investment instruments that currently are not readily available.

12. Reinsurance is influenced by market development considerations, at the cost of possible loss of knowledge transfer. Direct insurers are required to retain at least 5 percent of the risks to discourage fronting of business. Reinsurance with foreign reinsurers requires NAICOM approval, subject to the insurer demonstrating that it has exhausted local reinsurance capacity. Insurers must satisfy the mandatory cession to Africa Re before they may seek coverage with other reinsurers. Mandatory cessions, preferential tax treatment and supervisory exemption create an unlevel playing field and hinder competition. As local insurers could benefit from the transfer of technical know-how from foreign reinsurers, the exclusive use of local reinsurers for certain types of business should be reconsidered.

13. Consumer protection needs to be treated with high priority. As the compulsory insurance is enforced, the cost of intermediation of compulsory insurance and the purchase of retirement annuities need to be addressed to improve efficiency of the market. NAICOM should improve the disclosure standards, requiring intermediaries to disclose their capacity to act (whether as agent or broker), their financial interest in the policy, and any conflict of interest that might affect their recommendation of products. For annuities, electronic bidding models like the one existing in Chile would benefit the annuitants by enhanced cost transparency and reducing intermediation costs.