How to undertake a pensions buy-in transaction

Need to know:

  • Pension buy-ins are on the rise, but insurers can afford to be selective and a lot will depend on the preparatory work conducted by the scheme.
  • Sponsor and trustees should form a joint working committee early in the process, and member data must be as clean as possible to start on the best footing.
  • Flexibility in terms of aspects such as whether to de-risk in stages and goldplate terms in the contract can help the process, particularly for smaller transactions.

Pension buy-ins, whereby trustees of a scheme buy an insurance policy to cover benefit payments to a group of their members, are having a record year in 2019. Five of the largest ever transactions have been completed in the last four months alone, the biggest of which is the Telent and Rothesay Life deal worth £4.7 billion.

Charlie Finch, partner at law firm Lane, Clark and Peacock (LCP), says: “The major spur to this growth has been heavier mortality rates. This new trajectory in longevity has typically improved a scheme’s funding position by 5% plus, over the next 30 years.”

However, insurers can afford to be choosy, and will be looking to see that all stakeholders are on board, the sponsor is comfortable about any impact on the employer’s profit and loss account, and the trustees have a realistic view on pricing.

Early preparation

The better prepared a pension scheme is, and the fewer the potential complications, the more interest it will receive.

A joint working committee should meet early on to ensure all parties are engaged and feasibility work conducted. This committee will typically consist of representatives from the pension trustee and the scheme sponsor; bringing investment teams on board is also critical, as a buy-in will impact strategy.

The first plank of the preparation process will be to ensure that member data is as clean as possible, particularly around marital status and the ages of spouses and dependants.

Many schemes write directly to a sample of relevant members to gather this data. When the Allied Domecq Pension Fund went about preparing to seek quotations for its £3.8 billion buy-in, later completed with Rothesay Life, rather than write to all 27,000 affected members, it wrote to the 10% who represented 50% of the liabilities, and used tracing techniques to determine the marital status of the others. Michael Abramson, partner at Hymans Robertson and lead adviser on the transaction, says: “This proved much more manageable, while ensuring the fund had sufficient data to obtain the best possible pricing.”

Legal review

Another crucial part of the preparation is to codify scheme benefits. This means a thorough legal review of a scheme’s deed and rules and discretionary practices, so that every last detail of the benefits and terms is written up.

This is typically most problematic where there has been a history of mergers and acquisitions, which has resulted in discrepancies. Insurers also like to see as much detail as possible about the actual mortality experience for the scheme, going back 10 years.

Transaction insurer

There are eight insurers in the market. Some have already taken on all the business they can this year and are pushing deals into the first quarter of 2020.

Only a few insurers quote on small-to-medium-sized transactions, so smaller schemes contemplating a buy-in should consider whether the residual cohort would appeal to an insurer in future.

Stephen Purves, partner at Aon, Risk Settlement Group, says: “Different insurers have different sweet spots. Some are competitive on pensions but not on non-pensioners. Others are keen to diversify their books, so if they have written a lot of white-collar business, they might prefer blue-collar, or they might look for a different geography.”

A proportional approach

Almost all schemes normally try to de-risk in rotation, starting with pensioners, then the deferred members. The only potential mis-step in that process can occur when the scheme is small, as in this case it is often better to de-risk in one fell swoop, because the remaining cohort might not be attractive to an insurer.

In terms of the legal process, commercial pragmatism may be helpful in locking down the price and reducing execution risk. Rob Tellwright, pensions partner at Pinsent Masons, explains: “Some lawyers will look to goldplate the terms to the benefit of the trustees, pushing for every obligation to be recorded exhaustively in the contract, for example specifying every data cleansing obligation, but that can incur extra fees and delays. Often, it can be more efficient to allow some flexibility within the contract for the parties to agree these finer details later on.”

Member communications

Although members are unlikely to see any immediate change in the operation of the scheme, a key priority is to ensure they are informed of the buy-in by the trustees, and not through any public announcement. A short initial member announcement should be sent out, signposting to a website, and the fund’s administrator must be armed with responses should members call their team directly.

From initial efforts to gather and strengthen data in the preparation stages, to ensuring that individuals understand the ramifications and reasons behind a buy-in transaction, communications programmes are a vital part of the process.