When a company transfers its pension obligations to a life insurer, the insurance company evaluates the pension plan from many angles. An insurer will ultimately price the transfer based on a myriad of criteria such as the makeup of the employee and retiree populations, the quality of assets within the pension plan, the accuracy and completeness of the participant data, and other measures.
Yet, one of the most important evaluations that needs to be conducted is the due diligence by the sponsor of the pension plan on the selection of the life insurer. The selection of an insurer for a pension transfer is a fiduciary act and with it comes specific responsibilities.
Department of Labor Interpretive Bulletin 95-1 (DOL 95-1) requires plan sponsors "to obtain the safest annuity available” unless, under the circumstances, it would be in the interest of participants and beneficiaries to do otherwise.
A fiduciary must evaluate a number of factors relating to a potential annuity provider's claims-paying ability and creditworthiness. Reliance solely on ratings provided by insurance rating agencies would not be sufficient to meet this requirement.
MassMutual, in a recent white paper, “Pension Risk Transfer, Insights from an institutional risk manager about how to successfully de-risk and transfer pension obligation,” outlines how plan sponsors may choose to evaluate insurers to determine the best choice for a pension risk transfer (PRT) based on specific facts of the plan.1
Selecting the ‘safest’ annuity provider
In selecting the “safest” annuity provider for the purpose of distributing pension benefits, plan sponsors should keep the following in mind:
- Transferring pension assets to an insurer is a transfer of liability and is therefore a fiduciary act. That means the plan sponsor must act in the best interest of plan participants.
- The sponsor must act for the exclusive purpose of providing benefits to the participants and beneficiaries. While the defraying of plan administration expenses can be considered, the sponsor, as a fiduciary, must act with “care, skill, prudence and diligence under the prevailing circumstances that a prudent person acting in a like capacity and familiar with such matters would use.”
- Sponsors are required to conduct an objective and thorough search for an annuity provider.
The search for a provider or insurer must evaluate factors relating to a potential annuity provider's claims paying ability and creditworthiness.
- Quality and diversification of the annuity provider's investment portfolio.
- Size of the insurer relative to the proposed contract.
- Level of the insurer's capital and surplus.
- Lines of business of the annuity provider and other indications of an insurer's exposure to liability.
- Structure of the annuity contract and guarantees supporting the annuities, such as the use of separate accounts.
- Availability of additional protection through state guaranty associations and the extent of their guarantees.
- Use of a qualified, independent expert or consultant is recommended.
In a case where one annuity provider is only marginally safer than another, sponsors can take other factors into account. But, there are other considerations when selecting a sound insurer for the purpose of a PRT.
Sponsors should assess the insurers’ experience in managing not just PRT but in administering pension payments. Ultimately, the insurer will be handling all payments and administration and will become the primary contact for retirees, pre-retirees and beneficiaries. Choosing an experienced, capable administrator will ultimately help keep pension participants satisfied.
Ultimately, sponsors need to work closely with their pension consultant and establish a consultative relationship with their insurer. The relationship should start with a thorough evaluation by the plan sponsor of the insurer’s view on the risks associated with PRTs and ultimately assess its relative viability.
Keith McDonagh is Head of the Institutional Solutions businesses for Massachusetts Mutual Life Insurance Co. (MassMutual), which includes Institutional Insurance, Institutional Longevity, Defined Benefit, Institutional Investments, Stable Value, Medium Term Notes and Guaranteed Investment Contracts.
1 MassMutual, “Pension Risk Transfer, Insights from an institutional risk manager about how to successfully de-risk and transfer pension obligations,” September 2018.