A report by the Pensions Institute also found trustees of defined benefit pension schemes could secure savings of 10 per cent or more when they de-risk their pensioner sections, thanks to the introduction of health and lifestyle underwriting techniques in the bulk purchase annuity (BPA) market.
The Pensions Institute predicted a rapid increase in competition in the market, estimated to be worth up to £380bn, as existing players seek to respond to enhanced annuity providers offering more targeted underwriting of risk.
The report, ‘A healthier way to de-risk: The introduction of medical underwriting to the defined benefit de-risking market’ sponsored by JLT Benefit Solutions and Partnership, found individual underwriting makes possible de-risking transactions that previously had been unaffordable, taking schemes closer to a fully funded position and to a final buy-out, at a time when they are suffering from increasing liabilities due to economic conditions.
But the report warns that increased choice can lead to increased complexity and raised concerns of the risk of some advisers giving sub-standard advice on transactions.
The Pensions Institute also warned that without full transparency on underwriting, certain schemes that went through the process could find themselves selected against by insurers.
The report recommends that stakeholders and regulators work together to establish a clear regulatory framework and a code of practice to ensure the market reaches its full potential and develops in an orderly manner. The recommendations include a call for:
– Consistent and reliable data for the de-risking market as a whole and the development of consistent data in the enhanced buy-in market. To achieve the latter objective would require enhanced insurers to share their qualitative and quantitative experience.
– Insurers to develop flexibility in the way they can collect data on members’ health, so that schemes can benefit from whole-of-market bidding processes and avoid having to pre-select the insurer with the most appropriate methodology, as seems to be the case at present.
– Insurers and reinsurers to work with schemes and their advisers to develop a comprehensive disclosure process, so that all material medical underwriting facts are made available during the bidding process. This would eliminate anti-selection concerns on the part of conventional underwriters.
– Trustees to seek expert advice about the impact of the insurer’s covenant on the scheme’s financial position. They should also ensure that their trustee liability insurance extends to cover their liability in relation to de-risking exercises, including enhanced buy-ins.
– Stakeholders and regulators to produce clear guidance for trustees, sponsors and their advisers to ensure best practice is extended to the smaller schemes, which constitutes the market initially identified by medical underwriters as suitable for enhanced buy-ins.
Dr Debbie Harrison, senior visiting fellow at The Pensions Institute, says: “This is a major development in the de-risking market. Trustees and scheme sponsors depend on securing affordable buy-ins in order to reach their ultimate goal, which is to transfer all liabilities to insurance companies. The introduction of medically-underwritten buy-ins will help them to reach this goal more quickly – a development that should be welcomed by stakeholders and regulators alike.”
Will Hale, director of corporate partnerships at Partnership says: “Sophisticated underwriting techniques, which have made a significant impact in the individual annuity market by increasing retirement incomes for people with health or lifestyle conditions, can now provide a more cost-effective way for certain DB schemes to insure their liabilities.
Martyn Phillips, director and head of buyouts at JLT Pension Capital Strategies, says: “Buy-ins are already a common tool for trustees looking to de-risk their DB schemes. In the same way that enhanced annuities have changed the decumulation landscape for DC pensioners through the Open Market Option, the enhanced buy-in offers DB trustees a more cost effective way to derisk. With an ever increasing pressure on costs driven by widening scheme deficits, it is important that trustees are aware of, and explore all available options.”