Commentary: Plan participants benefit in pension risk transfer agreements

Lockheed Martin Corp. made headlines at the end of January when it announced plans to shift retiree pensions to annuities offered by a life insurer. In doing so, it joins an expanding list of companies, including FedEx Corp., Raytheon Co. and Alcoa Corp., that have transferred billions of dollars in liabilities to an insurer.

These transfers allow companies to focus on their core businesses. At the same time, they let life insurers do what they do best — provide solutions that manage long-term risk and protect consumers' retirement security.

While pension risk transfers shift obligations to an insurance company from an employer, they don't change the benefits retirees receive; that's because annuities, like traditional pension plans, provide guaranteed payments for life.

Critics of these deals, however, point to what they believe is an Achilles' heel: Corporate pension plans are governed by federal law, while insurance and annuities fall under state regulation. Surely, the critics complain, the hard-earned retirement benefits of America's workers are safer with Washington as the cop on the beat. Really?

Actually, they are not. The state regulatory system that oversees annuities and the life insurers that issue them impose a higher level of regulatory and solvency scrutiny than the federal regulations governing pension plans.

The National Organization of Life and Health Insurance Guaranty Associations, whose members protect policyholders in insurer insolvencies, said it best in a 2016 report: "Even though both (the state and federal) systems focus on payer solvency, (state) insurance regulation generally holds life insurance companies to stricter financial standards and more intensive oversight than are applied by pension regulation to single-employer pension plans."

State insurance regulators enforce strict capital rules on life insurers issuing annuities. In 2017, the industry held nearly five times more capital than required by regulators, according to the American Council of Life Insurers 2018 Fact Book.

State insurance departments closely monitor life insurers' financial statements. At the first sign of financial difficulty — long before an insurer's capital falls to 100% of what they're required to hold — regulators take corrective action to ensure life insurers remain on sound financial footing.

Pension plans, by comparison, are not subject to such strict rules. Their assets might drop to as low as 80% of plan liabilities before federal agencies take notice.

State regulation also requires life insurers to back their obligations with conservative investments. In 2017, nearly 50% of the life insurance industry's assets were in long-term, conservative corporate and government bonds.

Pension plan portfolios are permitted to include a higher percentage of riskier investments and typically contain at least 60% equities, according to the Pension Benefit Guaranty Corp.

The strict, conservative state regulatory system is a major reason life insurers were able to weather the financial crisis that began in 2008.

In its 2016 report, NOLHGA found that, "during the same 2008-2015 period that saw the failures of 931 pension plans affecting more than 560,000 participants, no active annuity insurer with unsatisfied annuity obligations was liquidated."

Strong regulatory oversight that helps prevent insurer insolvencies is the best way to protect consumers. But, in the rare event a life insurer becomes insolvent, the state regulatory system provides annuitants with an important safeguard.

Like pension plan participants whose benefits are backstopped by the PBGC (up to certain benefit limits), annuitants' benefits are protected by state guaranty associations. If an insurer becomes insolvent and is liquidated, state guaranty associations pay covered annuity benefits up to limits that are set by each state.

In addition to a robust system of state regulation, pension risk transfers are subject to the Employee Retirement Income Security Act, a federal law that provides additional protections for pension plan participants.

As fiduciaries, pension plan sponsors must always act in the best interest of the plan's participants and beneficiaries, including when considering a pension risk transfer. When choosing a specific annuity provider, they must take steps calculated to obtain the safest available annuity for their retirees.

Pension plan participants receiving payments from an annuity also enjoy ERISA's strong creditor protections. If a retiree enters bankruptcy, his or her annuity benefits receive special protection and are not included in the bankruptcy estate.

This stringent state and federal regulatory oversight ensure that retirees' pension benefits are well protected when they are transferred to a life insurance company. And, with their decades of experience managing long-term obligations, life insurers are able to guarantee retirees their benefits will continue no matter how long they live.

James Szostek is vice president, taxes and retirement security, at the American Council of Life Insurers, Washington. This content represents the views of the author. It was submitted and edited under Pensions & Investments guidelines, but is not a product of P&I's editorial team.