Guernsey trusted location for pension scheme longevity swaps

An original version of this article was first published by Captive Intelligence, May 2024

Guernsey is a popular European domicile for many UK defined benefit (DB) pension scheme longevity swaps, according to Christopher Anderson, partner at law firm, Carey Olsen.

A defined benefit (DB) pension scheme longevity swap is a financial transaction used by pension funds to manage the risk of increasing life expectancy among their beneficiaries.

Recent spikes in interest rates have resulted in large increases in the funding levels of many DB schemes, and many are considering a bulk annuity transaction or “buy-in”.

There have been 18 longevity swaps transacted in Guernsey to date and they each follow a similar structure whereby the pension scheme establishes a Guernsey-licensed special purpose vehicle insurance company (SPV).

During a longevity swap, the SPV insures the longevity exposure of the DB scheme to its members, and then reinsures those liabilities with a reinsurer. The SPV does not retain any net risk.

“The Guernsey SPV is thinly capitalised because the credit risk in relation to the transaction sits with either the life reinsurer or the pension fund,” Anderson told Captive Intelligence.

“If longevity departs significantly from the expectations, either the reinsurer or the pension trustee is going to be out of pocket and so margin calls on those movements can be high.”

Anderson said the Guernsey SPV is not sufficiently capitalised to provide these sums.

“The captive’s assets are primarily its rights against the reinsurer and the pension trustee, so given that the assets sit in either of those two entities, security and collateral is provided by those two entities so capital can flow directly between them rather than through the Guernsey captive.”

Anderson said Guernsey is a popular destination for these swaps as it has been a significant insurance hub for a long time and is a known quantity and a trusted jurisdiction.

“We’re located close to London where a lot of pension trustees are based, making it easier to attend board meetings,” he said. “Guernsey is not part of the UK and was never part of the EU, so it’s not within the Solvency II regime.”

The SPV vehicles in Guernsey are category six licenced insurers and so are subject to lighter touch regulation.

“The regulator here sees them as very low risk transactions because they are fully collateralised on either side and the counterparty is obviously a very significant institution or pension pot,” he explained.

Anderson said all such Guernsey transactions to date have been done through incorporated cell companies (ICCs), but it would be possible to transact through a cell of a protected cell companies (PCCs).

“The fact that these transactions can endure for 60 years has made people wary of protected cells, but an observable shift is happening, and people are becoming more comfortable with them,” he said.

Anderson said more jurisdictions have protected cells than ever before, “and I think the fact that the UK has them is a significant part of that”.

“Increased use of PCCs would facilitate further cost reduction and may mean that smaller pension funds start to use these structures more readily in the future,” he said.