For the last 3 years or so the PRA has been publicly voicing its concerns around the use of Funded Reinsurance, in particular within the pensions BPA industry.  In short, the PRA believes the treatment of Funded Re within the Solvency II regime is not reflective of the risks to which life insurers are exposed by reinsurance.

The frequency of the PRA’s comments on this issue made it unlikely it would let it drop and on 29 April 2026 it published a market consultation (CP8/26) with proposals which will most likely increase the risk capital the PRA expects insurers to hold in respect of Funded Re contracts.

Here’s why.

The PRA attaches higher capital requirements to riskier assets held direct by insurers, and rewards insurers for holding higher quality and more closely matched assets through lower capital requirements. As a result, BPA insurers tend to invest in lower risk, matching adjustment eligible assets to maintain competitiveness and keep capital requirements to an efficient minimum.

With Funded Re an insurer writing a bulk annuity policy can cede a material proportion of the liabilities for investment to an offshore reinsurer, often in Bermuda, usually receiving the assets back as collateral. The reinsurer earns a spread on those often private or illiquid assets to generate the return needed to meet its future obligations, while the ceding insurer obtains capital relief with the collateral theoretically mitigating its credit risk exposure to the reinsurer counterparty.  Under certain circumstances the initial capital relief may even exceed the value of the liability initially ceded.

Reinsurers based overseas might be subject to lighter touch interpretations of Solvency II and able to invest in more exotic, higher returning and potentially riskier, assets.  Despite this, the capital requirements for ceded reinsurance business have been typically 2% to 4% (according to the PRA) compared to 11% to 15% that would apply to the same credit-based investments if held on the ceding insurer’s balance sheet.  In other words, in addition to spreading risks, ceding insurers can also use reinsurance to gain access to riskier asset classes with higher returns effectively via the ‘back door’ and for a lower capital cost than holding those assets direct.

Whilst the ceding insurer can take control of the collateral in the event of the reinsurer’s worsening financial condition, the PRA points out that risks remain around the suitability of the collateral and the circumstances in which it can be claimed.  As such, the collateral may not offer the risk mitigation assumed.  Should the insurer have to recapture the risk in the event of the reinsurer’s failure, even with the collateral there could still be an adverse effect on the insurer’s balance sheet.

PRA’s proposals

The PRA is proposing changes to how Funded Re arrangements are valued as assets on firms’ Solvency UK balance sheets.  This is expected to more closely value the risks of Funded Re compared to those on directly held assets.  The changes, which will apply only to new business written from 1 October 2026, include the following:

Counterparty Default Assessment

The current method for assessing risk is quite approximate and non-dynamic compared to the way risk is assessed for direct investments.  The PRA proposes a prescribed approach to assessing the default risk of a reinsurer counterparty, more in line with the assessment for corporate bonds.  A notching system will be used based on the reinsurer’s credit rating which is then notched up or down (ie default risk allowance lowered or raised) depending on the quality of the collateral.

Collateral quality

Since much of the collateral for Funded Re consists of complex or structured credit instruments, the PRA wants greater confidence that such assets would perform as expected under stress.  To qualify for any upward notches the collateral must meet certain basic criteria such as the insurer is able to take control of and liquidate the collateral in a timely manner.  Insurers will then be able to use favourable upward notches if they can demonstrate the amount of collateral fully covers the ceded liability, it is Matching Adjustment eligible and the collateral is credit enhancing ie has a higher credit rating than the reinsurer.

Limiting the use of bespoke assumptions

Four of the eleven BPA insurers use full internal models, five use a partial internal model and two use the PRA’s standard model for calculating their capital requirements.  Insurers’ use of internal models, tailored towards their specific business profiles, will usually produce lower capital requirements than the PRA’s standard model.  The PRA proposes to limit the degree to which firms can use bespoke internal model assumptions to reduce the capital attributed to reinsurance recoverables, curtailing what it regards as an undue reliance on favourable firm-specific judgements.

Impact

For BPA insurers

Of the eleven BPA insurers currently, nine use reinsurance for longevity hedging (much less of a concern for the PRA given the absence of a material upfront premium) but seven do use Funded Re for risk management to varying degrees.  Interestingly, two insurers do not currently use longevity or funded reinsurance at all.

Based on the current proposals their impact is likely to vary considerably from insurer to insurer.  While the changes will be prospective, those with business models making more extensive use of offshore Funded Re structures are likely to face more adjustment for future business than those that have relied primarily on organic capital. In some cases, the economics of individual transactions may need to be reassessed and potentially trigger the restructuring of some reinsurance programmes and new business proposals. In particular, for certain structures the increase in capital requirements may be sufficient to render previously viable transactions uneconomic, potentially reducing the overall attractiveness and prevalence of Funded Re as a growth tool. However, for more traditionally capitalised players any changes are likely to be less disruptive and may perhaps even improve their relative competitive position.

For now at least the changes are expected only to apply to business written from 1 October 2026, so there are unlikely to be any material overnight shifts in insurers’ overall capital ratios.  Nonetheless, for the average Funded Re transaction the PRA has estimated the capital requirement will increase to 10% from the 2% to 4% currently. If there is any immediate impact it is more likely to be around contract pricing from October.  This will be unwelcome for the insurers given competitive pressures have already taken their toll on new business margins (another concern of the PRA but for separate discussion).

For pension schemes

For pension schemes seeking buyout, increased insurer capital requirements are likely to contribute to upward pressure on pricing for deals from October.  The degree of that pressure will depend both on the final calibration of the rules and the business model of the chosen insurer, and a measured increase of a few percent rather than step change seems more likely.  Insurers could decide to cover the increased cost themselves, reducing profitability, to remain competitive.  Altogether the fundamental economics of pension scheme de-risking are likely to persist and future demand for buy-out solutions is expected to remain strong.

For reinsurers

For reinsurers, the proposals are more likely to put pressure on offshore counterparties and lead to greater scrutiny of proposed collateral programmes.  This could lead to lower volumes of business ceded to reinsurers.  This may disproportionately affect lower-rated or newer entrants, while reinforcing the relative position of larger, more highly rated counterparties and potentially contributing to a degree of market consolidation over time.

Conclusion

The consultation closes on 31 July 2026.  Given the PRA’s clear focus on improving transparency around the risks of Funded Re, it would be surprising if the ultimate changes to Solvency UK were materially different to those proposed in CP8/26 following the consultation.

The dynamics of the current BPA market are unlikely to change in our view, nor is the demand for risk transfer transactions, even in the event of a tick up in pricing.

Full insight paper can be downloaded here.

More details on the issues with Funded Re can be found in our previous article here.

For further information, contact:

Richard Hall
rhall@argyllcovenant.com
+44 (0)118 334 5801
+44 (0)7718 543168

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The individual results demonstrate the PRA’s conclusion that the sector is resilient to a severe financial market stress scenario. However the results need to be interpreted with care:

• The three-stage scenario modelled is realistic and looks at how the stress scenario develops in stages, however the stresses modelled still only represent a small subset of plausible adverse industry stress events (eg others would include exposure to funded reinsurance and modelling risks for assets with no market value)
• Insurers typically carry out their own stress testing on a much broader range of scenarios which are often not published
• The focus is on SCR coverage but insurers are not a homogenous group and each insurer’s SCR depends on a number of factors including the extent of use of a bespoke internal model
• Not all insurers have made the same use of management actions
• The modelling excludes the new entrants Royal London, Utmost and Blumont

Ultimately the insurers with the highest SCR coverage ratios going into the process have unsurprisingly tended to have the highest SCR coverage post-scenario.

There is a danger in our view that given the above limitations the LIST results are seen as a financial strength measurement in their own right, and worse still, that it could become a new focus for insurers to achieve the best result in the LIST results. The LIST exercise is only carried out every 3 years currently which additionally makes it difficult to factor into assessment criteria as it will potentially be out of date quite quickly and updated infrequently.

In short, while the LIST 2025 exercise has provided useful insight and comfort that Solvency UK is doing what it is supposed to and protecting policyholders, trustees and employers will need to have a broader understanding of their shortlisted insurers if they want to demonstrate the robustness of their decision-making.

For further information, contact:

Richard Hall
rhall@argyllcovenant.com
+44 (0)118 334 5801
+44 (0)7718 543168

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Simon is very well known within the pensions and financial services industries. Previously Head of Government Relations at the Pensions Regulator, he moved to Deloitte’s covenant team as Head of Strategy and Relationships. Most recently, he was Head of Market Engagement for an employee benefits consultancy.

He has also provided advice and direction to several governments on UK pensions regulation, is frequently quoted in the press and judges a number of prestigious awards.

The move sees Simon step back into the world of Employer Covenant at a particularly fast-changing time, given recent regulatory and parliamentary activity, and as the pensions industry gets to grips with TPR’s Funding Code.

Speaking of the appointment, Simon Kew said “I’m very pleased to be supporting Richard and the team at Argyll Covenant as the regulatory focus shifts, meaning trustees and sponsors must also adapt to the changed regime. Argyll Covenant are extremely well placed to help, so the decision to join was an exciting one.”

Richard Hall, Senior Partner at Argyll added “We are delighted to welcome Simon to the Argyll team. He brings with him an enormous amount of experience in the industry and wider pensions regulation and will be of huge benefit as we support our clients with Employer Covenant advice and Insurer Due Diligence.”

#ProfessionalPensions  https://www.professionalpensions.com/news/4045103/people-moves

To find out more about Argyll’s employer covenant and insurer due diligence service, contact:

Richard Hall   +44(0)7718 543 168 rhall@argyllcovenant.com
Simon Kew    +44(0)7973 145 143 skew@argyllcovenant.com 

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Canadian insurer group Brookfield Wealth Solutions has announced that it will be open for bulk annuity business in the UK by the end of March.  It will operate under the Blumont Annuity brand which it already uses in North America but via a newly created and authorised subsidiary in the UK.  It is not Brookfield group’s first foray into the UK BPA market given another part of BWS reinsured a £1.8bn buy-in led by Just Retirement last year and BWS is an affiliate of Brookfield Corporation which ultimately owns another new BPA joiner, Utmost.

Opportunity…

The market has understandably reacted positively to the thought of additional capacity and the number of BPA insurers reaching 11, an all time high.  This creates an opportunity given Blumont will want to quickly establish its book and a track record to allow it to demonstrate that it can hold its own with the other providers.  For those trustees that can get comfortable (and there certainly will be some) there is the potential for some attractive pricing opportunities.

…and a challenge

Unlike most of the recent new entrants Blumont will be a completely new entity which raises some interesting questions for trustees.  For example, how will trustees and employers get comfortable on its financial standing with no existing book of business or track record?  There will be no meaningful solvency ratios, historical accounts or Pillar 3 disclosures, and potentially no credit rating.

The due diligence of course will need to be more rigorous and the absence of the usual metrics will mean that trustees and employers are likely to require external assistance.  Those thinking of transacting will need to consider a wide range of additional information, for example:

• Business plans and forecasts will need to be considered by expert eyes
• …as will the track record of key personnel…
• …together with an analysis of strategies around asset and liability management and risk management generally (including reinsurance).

Trustees will want to ensure that they have carefully considered the position of Blumont before transacting and that they have advisers in place with sufficient expertise to assess these areas to strengthen their governance trails.

Resourcing

A further challenge for the BPA industry is that another new arrival places yet more pressure on already scarce administration resource.  Certainly in time the addition of all the new entrants will provide welcome additional capacity.  However in the short term it could create increased delays as insurers both old and new, together with benefits consultancies, all compete for the same pool of administrators.  Schemes that have bought in and are working with insurers to get to final buyout have already seen timescales pushed out.  This is likely to get worse before it gets better, particularly if the industry’s focus is on winning new business.

What next?

Looking ahead this is unlikely to be the last new entrant this year and we expect the first non-captive value share BPA transaction to be announced later in the year.

For now, if you are considering transacting with any BPA insurer, including Blumont, and would like expert assistance from our insurance team, please get in touch.

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For further information, contact:

Richard Hall
rhall@argyllcovenant.com
+44 (0)118 334 5801
+44 (0)7718 543168

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Argyll is delighted to have supported the Trustees of the Financial Services Compensation Scheme Pension Scheme.  We provided Insurer Due Diligence to assist the Trustees in their decision-making for a £25m scheme buy-in.   The Scheme was sponsored by the Financial Services Compensation Scheme, the UK’s statutory compensation scheme for customers of UK authorised financial services firms.

For more information on the importance of Insurer Due Diligence see our article Why Obtain Independent Insurer Due Diligence?

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Last week Utmost Life & Pensions announced their first BPA transaction, a £20m buy-in for an unnamed scheme.  They had been providing indicative pricing for some time so it was encouraging to see another new entrant finally come to the market, following Royal London in March this year.

There are other potential new entrants waiting in the wings and Canadian group, Brookfield Corporation, has already announced its intention to create a new insurer to enter the UK bulk annuity market. This would take the total number of BPA insurers in the market to eleven.

Curiously, since Brookfield is also ultimately the majority shareholder in Utmost, it will be interesting to see how Utmost and the new Brookfield insurer, once it emerges, will operate together in the same market.  Brookfield certainly seems to have its attention on the UK market as also in the last week it was announced one of its US subsidiaries had reinsured a large block of business for Just Group, seemingly indicating a broader market interest than just direct BPA business.

Of course new entrants could have benefits for schemes wishing to buy out in the form of more competitive pricing.  This is likely to be most noticeable in the very short term as the new operators offer incentives as they look to build their books and their reputations.  Moreover, this may in turn also prompt existing players to review their pricing and thereby lead to a more competitive pricing landscape for all.

Pricing should also benefit from additional capacity generally.  However, the chronic shortage of administrator and other staff resource, over which both insurers and benefits consultancies are competing given the increase in BPA demand, means it is questionable how much additional capacity the new entrants will add initially.

Insurer Due Diligence implications

From a due diligence perspective the arrival of new entrants also creates some interesting challenges.  For example, if the new insurers are created from scratch there are unlikely to be any meaningful accounts or other disclosures to evaluate asset and liability management expertise or capital requirements for example.  Indeed for a brand new insurer the capital requirement would most likely be a notional one agreed with the PRA based on the details of an undisclosed business plan.

Even if the new entrant has written business historically, that business may be very different in nature to BPA business, as in the case of Utmost that has historically written largely unit-linked investment contracts which traditionally require much lower levels of regulatory capital.  Asset management expertise for investment contracts may not necessarily be a strong predictor of the ability to manage the very different asset allocation and asset/liability management complexity required for a portfolio of Matching Adjustment-eligible investments.

Due diligence always needs to be more than just a quick inspection of solvency ratios.  In particular for new entrants, it will be crucial to understand how they are managing the complex and interrelated risks to which their capital is exposed, possibly in the absence of much by way of historical disclosures.  Asking the right questions is always imperative with insurer due diligence, and with potentially few historical cues to go by, it becomes even more so with players that are new to the field.

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For further information, contact:

Richard Hall
rhall@argyllcovenant.com
+44 (0)118 334 5801
+44 (0)7718 543168

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30 June was important in BPA insurance terms as it signalled the introduction of the PRA’s new rules on Matching Adjustments for long-term insurers. A Matching Adjustment is a permitted addition to the discount rate used by an insurer to value certain long-term insurance liabilities where they are backed by investments that generate very closely matched cash flows. Theoretically the changes will allow a broader range of assets to qualify for the adjustment, reducing insurers’ liabilities and potentially even allowing releases of capital.

It might not seem that earth-shattering, however when you consider that only one of the nine insurers writing BPA business at the start of this year would have had sufficient assets to meet their Solvency Capital Requirement if the Matching Adjustment were removed, you can see that the Adjustment, and changes to it, are potentially a big deal.

What are the changes?

The changes were introduced as part of the UK’s ‘Solvency UK’ regime – the latest UK-specific application of the Solvency II methodology. To date assets qualifying for Matching Adjustment credit have tended to be residential Lifetime Mortgages (see separate article), commercial mortgages and long-dated private lending. Held to maturity and with cash flow profiles that more closely matched the policy liabilities they backed, the illiquidity of these assets helped BPA insurers generate extra returns ie an ‘illiquidity premium’. (How closely some of these asset classes match liabilities in practice is worthy of another article.)

To qualify for Matching Adjustment credit, these investments previously had to be investment grade and generate “fixed” cash flows to maturity. Assets that did not inherently generate qualifying fixed cash flows, such as Lifetime Mortgages, could be packaged up via securitisations into Matching Adjustment-eligible investment grade tranches with fixed cash flows, and ineligible, sub-investment grade mezzanine and equity tranches with less certain cash flows.

The recent changes now allow the Matching Adjustment portfolio to include a proportion of assets with “highly predictable” rather than necessarily fixed cash flows to qualify, as well as watering down the credit quality requirements. The new rules have also broadened the range of liabilities that might qualify for Matching Adjustment credit.

Overall the changes could allow insurers to start holding a broader range of infrastructure and ‘green’ investments. For example the definition of “highly predictable” cash flows would potentially allow the Matching Adjustment portfolio to include infrastructure assets with an initial construction phase, generally characterised by more flexible cash flow profiles. Changes to the restrictions on sub-investment grade assets may also encourage investment in ‘green’ or environmental financing assets, while improved recognition for internally-rated assets might also be expected to further increase insurers’ appetite for private credit.

Should the pensions industry be concerned?

Although the range of investments in which BPA insurers can invest has now widened and could potentially include riskier assets as well as a greater proportion of internally-rated investments, we believe the overall impact on BPA insurers’ balance sheets probably will be relatively muted:

• 10% limit: the benefit from these new assets is restricted to 10% of the Matching Adjustment credit from the whole of an insurer’s assets

• Fundamental Spread: this is the deemed risk component in the return from an asset. The greater the deemed risk the less of the return can be allowed for in the Matching Adjustment. Increases to this de-facto risk charge are required to accommodate the greater uncertainly associated with assets with only “Highly Predictable” cash flows, which are likely to reduce the effective Matching Adjustment credit for, and thereby deter, more aggressive asset allocations

• Attestation: there is a new “attestation” requirement whereby a designated senior manager at the insurer must attest at least annually that the Matching Adjustment can be earned with a high degree of confidence

• Other: additional stress testing requirements will effectively highlight those insurers with higher risk asset strategies

What should trustees and employers be doing?

Matching Adjustments can have a material bearing on an insurer’s solvency. While we do not anticipate the changes will have a material balance sheet impact on the industry as a whole, it nevertheless underscores the need for trustees and employers to be aware of the investment risks in their chosen insurer(s). Specialist independent assistance may be needed to assess this risk and ensure that trustees and employers are comfortable with the risk profile of an insurer prior to transacting.

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For further information, contact:

Richard Hall
rhall@argyllcovenant.com
+44 (0)118 334 5801
+44 (0)7718 543168

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Argyll has produced an Insight paper on Funded Reinsurance looking at why trustees and employers might be concerned when considering buy-ins and buyouts, and what they can do to manage the risk exposure.

There is also a summary article.  Both publications can be found below.

Summary article: Funded Reinsurance for BPA insurers – what’s the problem (Apr 2024)

Insight paper: Funded Reinsurance and BPA Insurers (Apr 2024)

For further information, contact:

Richard Hall
rhall@argyllcovenant.com
+44 (0)118 334 5801
+44 (0)7718 543168

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Richard Hall Head of the Reading Team said: “I’m delighted that someone of Joshua’s calibre has joined us to help support our growth.”

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