A succession of high-activity years for defined benefit (DB) pension scheme bulk purchase annuity (BPA) buy-ins has fueled the growth of the pension risk transfer (PRT) market in the UK in recent years, but at some point, these transactions will need to move to buy-out so that the original scheme can wind-down.
A combination of transaction complexity and capacity constraints among administrators and insurers, however, means that a large number of schemes that have bought buy-in bulk annuities remain in limbo, and with little financial incentive among insurers to accelerate schemes’ offset plans to buy-out, there is uncertainty that the pace will pick up any time soon.
Aggregate pension de-risking transactions have averaged around £40bn annually over the past few years with a more-than £50bn record set in 2024; of those, however, only about £8.4bn was attributed to buy-outs, according to Legal & General.
Dean Wetton, Founder and Managing Director of Dean Wetton Advisory, said the gap was not surprising.
“There are so many opportunities for things to fall over,” he said.
“Just because it’s gone into one end of the sausage machine doesn’t necessarily mean it’s going to come out of the other end of the sausage machine.”
Rising interest rates in recent years have greatly improved UK DB schemes’ funding positions. According to PwC, funding levels soared to 130% by late 2024, equivalent to surpluses of £330m, giving trustees room to accelerate plans to begin a de-risking journey. And with more insurers entering the pension risk transfer – Royal London and Blumont Annuity are among the latest arrivals to the party – the capacity to absorb that demand has also increased.
Further incentivising buy-in activity has been the relative ease of transacting. As more have been completed, administrators have become more experienced and are compressing the time it takes to complete deals. In the case of smaller schemes, the processes are being streamlined further by the use of templated transactions.
Such is the demand that Legal & General estimates 53% of large UK DB schemes are targeting a buy-in or buyout, with 38% aiming for full buy-out in the next three years. That is substantially higher than the 11% that gave the same response to a similar survey in 2015.
Buy-outs, however, are far more complicated.
The journey to an eventual wind-down is long and involves multiple steps to ensure that the selected insurer is provided with all the necessary data to match the policies of individual scheme members. This data cleansing stage will involve reconciling misaligned data, including equalisation of guaranteed minimum pension (GMP).
A further step, known as a true-up, will establish that the final premium to be paid to the insurer is a fair reflection of the liabilities it will assume. This stage, says Wetton, can take many months, and even years; the exact time to completion will depend on the scheme’s complexity, the data quality and the characteristics of the asset portfolio.
“In practice, the GMP equalisation proves to be a fairly small amount, but it is a complicated thing that requires actuaries to spend a long time on,” he said.
In small schemes, where there is some level of standardisation in the pension benefit structures, the buy-out process can take about 18 months, said Lara Desay, Head of Risk Transfer at Hyman Robertson.
Few are so homogeneous, however.
“It can be very challenging to complete this process in less than 18 months to two years, but can typically take much longer,” Desay said.
“There are key processes that trustees and insurers need to take to transition from buy-in to buy-out. These processes are resource intensive particularly for scheme administrators and for the insurers themselves and this can cause delays in provision of information and movement through the process.”
Wetton says the completion times for complicated deals could be as much as three years.
“There’s a lot of esoteric stuff in UK pension schemes but when you look at what comes out of an insurer in terms of their annuity book, it’s fairly standard,” he said.
“All of those esoteric risks have to be replicated – even if it’s someone who’s owed a particular benefit of CPI, based on their salary from 20 years ago… that benefit needs to be replicated.”
The time to buy-out is not only hampered by capacity shortages among insurers. According to an LCP survey late last year, about three quarters of schemes cited resource constraints among administrators as a roadblock to wind down.
“There is a heavy reliance on administrative capacity in the buy-in to buy-out phase and this is where the resource and human capital constraints are more acute,” said Desay, adding that some schemes prefer only to buy-in, once the economic and financial risks are removed for the trustee.
And there is another factor that gets added to the list of hurdles: the absence of any timetable to completing a deal. With the insurer having been paid its premium without assuming the scheme’s liabilities, it is unlikely to be in any hurry to expedite the buy-out process.
“There’s no rush, no deadline to these things. The only ones who are rushing this along is the scheme sponsor because they’re the ones paying for everybody – the advisers, the lawyers, investment consultants, the administrators, the professional trustees – but they are pretty much powerless to do anything,” said Wetton.
The prospects for buy-outs accelerating are uncertain even though industry reports suggest they are the expected endgame for an overwhelming majority of schemes. LCP, for instance, said it expects the number of schemes winding down in 2025 to increase 33% as more insurers and administrators enter the market.
However, with the Pension Protection Fund’s Purple Book 2024 identifying a potential £1tn of scheme funds yet to be insured, continued growth in de-risking activity could potentially outstrip even the growing capacity to transact them.
While the financial benefits to insurers of managing a buy-out would be greatest to those which transact with larger schemes, Wetton adds that increased deal streamlining would support small-scheme transactions.
“In some ways, the work to do on a 100-member scheme is no different than on a 10,000-member scheme in terms of the steps that need to be followed,” he said.
“But the benefit structure in a small scheme would be more standard and therefore shifting it would be easier… they don’t have to process as much, and they can automate the way they put that into their models to do the pricing and so on.”
