Medically-underwritten buy-ins could equal DB pension savings

Trustees of defined benefit (DB) pension schemes could secure savings of 10% or more by de-risking their pensioner sections through a health and lifestyle underwriting technique, according to a report by the Pensions Institute at Cass Business School.

A healthier way to de-risk: the introduction of medical underwriting to the defined benefit de-risking market, found that this type of individual underwriting could slash the cost of a buy-in compared to conventional approaches.

However, the report warned that, in any complex market, such as DB de-risking, increased choice can also lead to increased complexity. It 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.

Its recommendations also include calls for:

  • Consistent regulation of the bulk purchase annuity market on the part of the Financial Services Authority and The Pensions Regulator.
  • 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 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. 
  • 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 of the Pensions Institute (pictured), who co-authored the report, said: “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 Assurance, which co-sponsored the report, added: “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. 

“We believe the proposal for industry and regulators to establish a code of practice is a welcome and significant initiative. This provides a clear framework for how schemes and their advisers consider the benefits of individual underwriting when evaluating the most effective way to insure liabilities.” 

Martyn Phillips, director and head of buyouts at co-sponsor JLT Pension Capital Strategies, added: “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.”