Solvency II guidelines confirm charge for employee pensions

New guidelines from the European Insurance and Occupational Pensions Authority make clear that insurers will face capital charges for employee pension schemes

New Solvency II guidelines confirm that insurers will have to look through to assets held in their employee pension schemes when calculating their Pillar I requirements, increasing the capital burden of the directive for some firms.

On June 2, the European Insurance and Occupational Pensions Authority (Eiopa) released more than 700 pages of guidelines for public consultation. These are designed to help ensure the "common, uniform and consistent application of Union law".

The text on employee benefits states that insurers must take into account the market and counterparty risk of the assets backing their employee pension schemes when calculating their Solvency Capital Requirement (SCR). This will add to their overall capital requirements unless all risks of managing the pension scheme are outsourced.

This requirement was first floated in the preparatory technical specifications for use in the European-wide stress test launched by Eiopa in April. But it was unclear whether employee benefits would be included in calculations for the SCR. In addition, many stakeholders assumed that employee pension schemes were beyond the scope of Solvency II, as European pension schemes are regulated under the Institutions for Occupational Retirement Provision Directive (Iorp).

Responding to the guidelines, an ABI spokesperson said: "Insurers should not be required to hold additional capital for their employee benefit schemes under Solvency II. The employee benefit schemes offered by insurance companies should be regulated in the same way as those offered by other companies in the UK and the rest of the European Union".

The impact of the change will hit UK firms hardest, according to Paul Fulcher, managing director, ALM structuring at Nomura in London. "The largest company-sponsored pension schemes in Europe tend to be in the UK, hence it will be a bigger problem for UK insurers. While some may have picked up the potential costs through their own economic capital models, many would have assumed they wouldn't need to on their Solvency II balance sheet," he says.

The new guidelines also fail to clear up inconsistencies with the accounting treatment of assets backing pension liabilities and those backing policyholder liabilities. Employee pension obligations are categorised as "other liabilities" in the preparatory technical specifications, meaning the assets and liabilities should be valued according to International Accounting Standard (IAS) 19, rather than on a Solvency II, market-consistent basis.

"It is odd that you have to look through to the pension assets and liabilities as though they sit on your balance sheet, even though you value them in accordance with IAS 19, which values the liabilities differently than if they were directly on the insurer's balance sheet. This inconsistency is not what the industry expected," says Fulcher.

Insurers are exempt from the look-through requirement if they completely outsource the pension scheme and transfer all responsibility for making up deficits in the fund to an external Iorp-regulated provider, or to another insurer. Therefore, some insurers could elect to sell their pension assets and liabilities through a buy-out transaction to avoid the additional charges. The consultation on the guidelines closes on August 29.