Companies are breaking new ground by using captive insurance units to fund pension benefits. Towers Watson, a human resources consulting company, says it has advised on more than $1 billion in insurance transactions to put such arrangements in place.
“What this does is bring into harmony the rights of participants and the rights of shareholders,” says Mitch Cole, a director at Towers Watson. “Shareholders want to make sure that everything that gets promised gets paid, but they want to make sure that it gets paid in the most efficient way possible.”
A company that sponsors a pension plan arranges to buy from an insurer a group annuity that will pay future benefits for plan participants, Cole explains, and the insurer then reinsures the annuity with the company’s captive.
To date, he says, the only transactions have been those Towers Watson advised on, all of which were done by companies in Europe. (Recently Coca-Cola reported that it had used a captive to fund some of its pension plans in Europe.)
Pension regulations are different in Europe than in the United States, and using a captive to fund pension benefits gives plan sponsors more control, Cole says. He adds that if pension assets are providing a greater return than needed to fund the plan’s liabilities, companies can capture the excess using this strategy.
Cole estimates that to undertake such a transaction efficiently, companies should be looking at a transaction worth at least $100 million. He adds that those with seriously underfunded plans probably don’t have the resources to do it.
Cole says he sees no reason why such transactions couldn’t occur in the United States. “Right now, the need to do it here is not as present, although we do have clients that are looking at it in the U.S.,” he says.
George O’Donnell, a senior vice president of benefit funding strategies at Aon Hewitt, says many employers are assessing the concept of using a captive to fund pension benefits. But he cautions that “it’s a long-term arrangement that needs to be entered into with great care.”
Companies need to consider the captive’s tax situation, their cash position and that of the captive, and the terms they can arrange with the insurer. “We believe they all need to be aligned properly for a transaction to be viable,” O’Donnell says.
For an earlier story about Coca-Cola’s using its captive to fund retiree healthcare, see Real Retiree Health Promise.