Meeting pension plan obligations can be challenging. Gain additional insight through our five best practices when considering a pension risk transfer.
Ask, how does transferring your pension plan risk advance the success of a pension plan’s broader term strategy?
- Preserving funded status above a targeted percentage
- Sensitivity to accounting measures
- Reducing ongoing plan expenses
- Recognizing limitations on employer contributions
- Ensuring a transaction happens within the defined timeframe
- Reducing financial volatility
| Type | Liftout | Plan termination |
|---|---|---|
| Scope | Selected participants in the plan – usually retirees (e.g., retirees with monthly benefit below $500) | All remaining liability in the pension plan at termination – generally includes deferred participants (active and term vested) |
| Project length | Shorter – 3-6 months | Longer – 12-18 months |
| Control and flexibility | More – sponsor can tailor the purchase to targeted participants to optimize outcomes. Timeline can be easily moved as internal or external considerations arise. | Less – sponsor has less control on participants included in the transaction. Much less timing flexibility once the termination process is started. |
| Remaining obligation | More – plan retains liability for participants not included in transaction | None – no remaining obligation |
| Settlement accounting | May result in settlement accounting | May result in settlement accounting |
| Funding | Plan does not necessarily have to be fully funded to proceed. May reduce funding post transaction or require a post-transaction contribution to preserve funded status. | Plan typically needs to be at or near full funding. |
It’s common for employers to not have their data ready for a pension risk transfer. Many types of data that were “nice to haves” now play a critical role in the annuity transaction. Having a strategy that allocates resources to address data shortfalls can increase insurer engagement and benefit the price.
- Consider completing missing data, e.g., missing participants/contact information, beneficiary SSNs, benefit eligibility, etc. Missing data increases the risk and resources to transfer the plan, which can result in higher cost to you.
- Supplement your project with additional data, such as with past mortality experience studies, which can also provide critical information to insurers to ensure their price is best customized to your plan.
Understand that, of the active insurers in US PRT market, not all compete in every transaction. And while you may have a preferred provider, your fiduciary responsibility under ERISA is to perform due diligence when selecting an annuity provider for a defined benefit pension plan.
When selecting an annuity provider for a defined benefit pension plan consider
- Ensuring financial strength and claims paying ability of the insurer
- Ability and willingness of insurance carrier(s) to handle complex benefit structures
- Brand name and track record of insurance carrier(s)
Consider that a competitive bid transaction should balance several factors:
- Transaction size, to consider the appropriate number of carrier(s).
- Transaction timing, especially in the second half of the year due to heightened transactions and potentially limited insurance carrier capacity.
- Plan provisions to include in the potential transaction (e.g., cash balance, surviving spouse benefits, etc.).
- Understand some employers may choose to work exclusively with an insurer. Some plans may desire to lock in capacity from a trusted provider earlier in the process, or value additional customization and flexibility that this framework may offer.
Plans should consider how decisions on the current project impact the context of future transactions (if any).
Before purchasing an annuity for your PRT, make sure that you’re in investments that match your liability to help avoid volatility in your funding status at the last minute that could impact price and challenge affordability. It’s also critical to have a plan for how to position your investments to fund the purchase.
Not all transactions need to be funded completely with cash. Consider the use of alternative funding methods, such as asset-in-kind (AIK) transfers
- AIK transfer opportunities are potentially possible when there are existing assets and/or investments currently held by the pension plan that are desired by the insurance company.
- Potential benefits of transferring AIK:
- Transaction cost savings of liquidating holdings
- Can minimize funding volatility upon transaction
- Can help minimize market volatility with last minute differences in liability and asset liquidation prices
Plans should give consideration towards including illiquid or privately held positions into the AIK portfolio. While this requires a longer project timeline due to a more extensive due diligence and ownership transfer process, their inclusion could add additional value in the transaction.
PRT annuity prices do not move directly with the accounting liability Pension Benefit Obligation (PBO) or the investment holdings supported by the plan. This is due to several factors driving price that are unique to insurers vs. plans (e.g., insurer reserves/capital standards, insurer investment allocations, etc.).
Advocate for price transparency early in the project to avoid
- Improper allocation of funds needed for the transaction
- Starting a plan termination process (including participant communications) if pricing concerns makes this an undesirable or unattainable outcome
- Paying service providers for work that may no longer be needed
Plans should have a good framework to help ensure they’re effectively monitoring cost throughout their project to ensure end goals are met.
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