Notional SCR and the diversification adjustment for ring-fenced funds and matching adjustment portfolios: a worked example

A notional SCR is the Solvency Capital Requirement of one ring-fenced fund, one matching adjustment portfolio or the remaining part of the undertaking, calculated as if that part were an insurer on its own. This article takes the calculation one level deeper than the ring-fenced funds explainer: two funds instead of one, every square and cross term written out, the adjustment for lost diversification, and the q factor that spreads that adjustment back over the risk modules in S.25.01. The undertaking is the same one as in that explainer (SCR 100, adjustment 8, own funds 130 after the restriction), so the two articles can be read side by side. Every figure below was recomputed in a short Python script and pasted from its output. RFF Tool runs the notional SCR for every fund and the remaining part in one pass and produces the same allocation; here it is done by hand.

The rule: Articles 216 and 217

Article 216(1) of Delegated Regulation (EU) 2015/35 says that where an undertaking has ring-fenced funds under Article 81(1), or has approval to apply a matching adjustment, it must adjust its SCR calculation by the method in Article 217. Article 216(2) exempts funds run under Article 304 of Directive 2009/138/EC, which are calculated assuming full diversification with the rest of the undertaking.

Article 217 sets out the method. Paragraph 1 requires a notional SCR for each ring-fenced fund, each matching adjustment portfolio and the remaining part, calculated as if each were a separate undertaking. Paragraph 2 defines the SCR as the sum of those notional SCRs. Paragraphs 3 to 5 measure scenario charges on the restricted basic own funds of each part, net of the future discretionary benefits that can be cut in a fund with profit participation. Paragraphs 6 and 7 fix the direction of bidirectional shocks by the effect on the undertaking as a whole, paragraph 8 aggregates each notional SCR from its own sub-modules and modules, and paragraph 9 requires the undertaking to assume no diversification between the parts.

EIOPA’s Guidelines on ring-fenced funds (EIOPA-BoS-14/169) turn this into steps. Guideline 9 lists what a notional SCR contains: an operational risk charge, the loss-absorbing capacity adjustments, diversification inside the fund, charges net of future discretionary benefits, and negative charges set to zero. Guideline 12 applies the same steps to the remaining part and floors negative notional SCRs at zero before they are summed. Guideline 17 requires standard formula undertakings to allocate by risk module the difference between the sum of notional SCRs and the SCR as if there was no loss of diversification, and its Technical Annex offers two simplifications for that comparison figure.

The three steps

Step one is a full standard formula run for every part on its own assets and liabilities. The standard formula aggregation applies inside the part: sub-modules combine into modules, and modules combine through the Annex IV correlation matrix. With only market risk and life underwriting risk in play the correlation is 0.25, and the notional basic SCR of a part with market charge m and life charge l is the square root of m squared plus l squared plus 2 times 0.25 times m times l. Two conditions apply. The scenario direction is not chosen per fund: under Article 217(6) and (7) the undertaking adds the impact of each direction across all parts and uses the one that lowers total basic own funds more, inside every part, and a fund that would gain under that direction contributes zero for that sub-module (Guideline 9(d)). And the remaining part is not a residual: it is calculated like a fund, with its own operational risk and its own loss-absorbing capacity (Guideline 12).

Step two is the comparison figure: the SCR of the same balance sheet treated as one undertaking, with the correlation matrix allowed to work across the fund boundaries. Guideline 17 calls this the SCR as if there was no loss of diversification. The full method recalculates every scenario on the combined balance sheet. The Technical Annex allows a direct summation of the capital charges across all parts instead, at sub-module level (Simplification 1) or at module level (Simplification 2), aggregated with the usual matrices.

Step three is the adjustment: the sum of notional SCRs minus the comparison figure. It is never negative, because aggregation with non-negative correlations never rewards splitting a balance sheet. In S.25.01 it is reported at R0120/C0100, “Adjustment due to RFF/MAP nSCR aggregation”. The template also spreads it over the risk modules in column C0050 through a q factor: the adjustment divided by the basic SCR at C0040/R0100 less the intangible asset charge at C0040/R0070. Each of market, counterparty default, life, health and non-life risk receives q times its charge in C0040. The charges in C0030 and C0040 themselves are the as-if-no-loss figures, before the allocation.

The worked example: two funds, a remaining part, two modules each

The undertaking is the one from the explainer, with its single with-profits fund now split into two funds, A and B. Amounts are in millions, the correlation is 0.25, and operational risk, loss-absorbing capacity and deferred taxes are left out so that each notional SCR equals its notional basic SCR. The scenario direction has already been fixed for the undertaking as a whole.

Step one, one notional SCR per part:

The cross term is 2 times 0.25 times market times life. The SCR of the undertaking under Article 217(2) is 99.994, which the explainer rounded to 100. The funds together carry 30.023 (R0420) and the remaining part 69.971 (R0410).

Step two, the SCR as if there was no loss of diversification, by Simplification 2: market 18 plus 9 plus 12 is 39, life 5 plus 3 plus 66 is 74. 39 squared is 1,521, 74 squared is 5,476, the cross term is 1,443.0, the sum is 8,440.0 and the square root is 91.869. The explainer’s 92.

Step three, the adjustment: 99.994 minus 91.869 is 8.125, reported at R0120. With no intangible assets, q is 8.125 divided by 91.869, which is 0.08844. Market gets 0.08844 times 39, which is 3.449; life gets 0.08844 times 74, which is 6.545.

Those two allocations add up to 9.994, not 8.125, and that is by design. The q factor scales the undiversified module charges, so the allocated amounts also diversify against each other. Aggregate the enlarged modules, 42.449 and 80.545, with the same 0.25 correlation and the result is 99.994, the sum of notional SCRs. The allocation is built so that the modules in C0040 plus C0050, aggregated again, reproduce the SCR.

The own funds side of the same undertaking: Fund A holds 35 of restricted own funds against a notional SCR of 19.849, so 15.151 is deducted under Article 81(1); Fund B holds 15 against 10.173, so 4.827 is deducted. With 100 in the remaining part, total basic own funds fall from 150 to 130.023 and the ratio is 130 percent, as in the explainer.

Filling S.25.01

R0060 is the diversification inside the as-if-one calculation: 39 plus 74 minus 91.869. Because operational risk and the loss-absorbing adjustments were left out, R0100 plus R0120 equals R0410 plus R0420, and the SCR at R0220 is 99.994. In a real run each notional SCR also carries its part’s operational risk and loss-absorbing capacity. Each material fund also files its own SR.25.01 with the fund number in Z0030, carrying that fund’s notional SCR by module with no adjustment and no allocation; the adjustment exists only at the level of the undertaking.

Matching adjustment portfolios

Today a matching adjustment portfolio is treated like a fund. Article 217(1) names it alongside ring-fenced funds, its notional SCR enters the sum in paragraph 2, and it is reported at R0430 rather than R0420. Paragraph 1.6 of the Guidelines makes Guidelines 6 to 17 apply to matching adjustment portfolios, and paragraph 1.15 of Guideline 4 gives the reason: the reduced transferability of the matched assets.

That changes on 30 January 2027. Commission Delegated Regulation (EU) 2026/269 removes the references to matching adjustment portfolios from Articles 216 and 217, and EIOPA’s revised guidelines of 15 July 2026 delete paragraphs 1.6 and 1.15. From that date a matching adjustment portfolio takes part in full diversification unless it is also a ring-fenced fund on its own terms. In the worked example, a portfolio that today would add a third notional SCR to the sum will instead sit inside the remaining part’s calculation. The Directive (EU) 2025/2 explainer covers the rest of the review. UK entities follow the PRA Rulebook and its own timetable, so the EU date does not apply to them; see Solvency UK vs Solvency II.

The simplifications EIOPA allows

Materiality, under Guideline 5 and Article 81(2). A fund that is not material may skip the notional SCR. The undertaking deducts all of its restricted own funds and includes the fund’s assets and liabilities in the remaining part. Guideline 5 lists what to weigh: the risks covered, the assets and liabilities, the amount and volatility of restricted own funds, the fund’s share of total assets and capital requirements, and the likely effect on diversification.

Simplification 1, in paragraph 1.41 of the Technical Annex. For the as-if-no-loss figure, sum the gross capital charges across all parts at sub-module level, aggregate the sums with the sub-module correlation matrices into modules, sum operational risk and intangibles across parts, sum the loss-absorbing adjustments across parts, and apply the usual SCR formula. R0450 reports method 2.

Simplification 2, in paragraph 1.42. The same, but the summation happens at module level, as in the example above. R0450 reports method 3.

Guideline 17 adds one condition: the approach must be applied consistently over time. Switching between full recalculation and a simplification from one quarter to the next moves R0120 without any change in risk, and a supervisor reads that as a data quality problem.

Common mistakes

Double counting the adjustment. The modules in C0030 and C0040 are the as-if-no-loss figures. If the sums of notional SCRs are written there and R0120 is filled as well, the SCR is overstated by the adjustment. The same happens when the C0050 allocation is added into C0040 before the diversification row is calculated.

Allocating the adjustment to the wrong entity. The adjustment belongs to the undertaking as a whole. It does not go into any fund’s SR.25.01, and not into the fund whose restriction caused it: Fund A’s SR template shows 19.849, not 19.849 plus a share of 8.125.

Forgetting the remaining part’s notional SCR. The remaining part needs a full run under Guideline 12: its own scenarios in the direction fixed for the whole undertaking, plus its own operational risk charge and loss-absorbing capacity. Taking the total SCR and subtracting the funds does not produce it, and R0410 cannot be filled without it.

Where this lands in the software

RFF Tool runs the standard formula for each ring-fenced fund, each matching adjustment portfolio and the remaining part in the same pass, with the scenario direction fixed on the undertaking as a whole before any notional SCR is aggregated. Assets already prepared for the list of assets and the look-through in QRT Tool are split into risk buckets per fund, and the liability importer assesses the underwriting risk of each balance sheet from structured data on liabilities, funds and exposures. The as-if-one figure, the adjustment and the q factor allocation come out of the same run, and the results transfer to QRT Tool with one click, which fills S.25.01 with the R0120 adjustment and the C0050 allocation, each fund’s SR.25.01 with its fund number, and the register in S.01.03. Each notional SCR is a standard formula run, and SCR Tool shows that run with the formulas visible and the results in QRT format.