Exemptions for offshore insurers will be a "liability can of worms" unless changes are made to simplify the three-part test, according to a prominent insurance lawyer.

The Federal Government has released a "three limb" test for brokers and direct offshore foreign insurers (DOFIs) seeking exemptions to Australian prudential law under which brokers can self-assess their eligibility. As a last resort, they can seek consent for a one-off exemption from the Australian Prudential Regulation Authority (APRA).

But Blake Dawson Waldron partner Mark Radford says the exemptions could be confusing and costly if they are not explicit.

"Defining it will be a joy," he told Sunrise Exchange News. "The real concern I have is whether or not it will be clear to the people self-assessing what is caught by the relevant definition."

Mr Radford says brokers who self-assess an exemption and get it wrong will face hefty fines. The DOFI dealing the risk will also be subject to penalties but could sue the broker to recover costs.

"The policy itself wouldn't be affected, but the DOFI could also bring an action against the broker. It opens up a liability can of worms for insurance brokers. What protection does a broker have under the regulations?"

Mr Radford says the first limb of the test disregards smaller operators as sophisticated buyers of insurance. Businesses with more than 300 employees, operating revenue of more than $200 million a year or gross assets of more than $200 million are free to buy cover from DOFIs.

While the second limb of the test exempts brokers and DOFIs in stand-alone risk lines, such as political, nuclear and asbestos, the wording of an exemption paper released last month seems to suggest brokers need to explore the local market for cover and capacity before placing cover with a DOFI.

Mr Radford says the second limb lacks clarity.

"It's a simple test if it is on a stand-alone basis, but it's a complex test if you must determine whether you can get the cover locally."

He hopes the test will be based on a definitive list of exempted risks.

The third limb allowing brokers and DOFIs to apply for a one-off exemption could be expensive for brokers.

"The key issue is criteria. Will the broker assess the exemption for the client, or get ASIC or APRA to do it - they aren't sure which. Methods other than self-assessment will be costly and complex."