Ch35: Insolvency and closure

Question 1

When does an insurance company become insolvent?

2

Answer 1

• Unable to meets its liabilities as they fall due
• Or does not have assets in excess of the value of the liabilities

Question 2

When would a benefit scheme close or wind up?

2

Answer 2

• Benefit scheme may become insolvent
• or stop financing benefit provision for some other reason

Question 3

Winding up definition

2 ways

Answer 3

• Process of terminating a benefit scheme
• Usually by applying the assets to the purchase of individual insurance contracts for the beneficiaries
• or by transferring the assets and liabilities to another scheme

Question 4

When may a bank become insolvent?

2

Answer 4

• If it cannot meet its obligations to its depositors
• or if its assets is worth less than its liabilities

Question 5

3 ways regulation aims relating to insolvency

Answer 5

• May be required to maintain a certain level of solvency capital
• There are regular reporting requirements that enable regulator to monitor financial position of companies
• Enable regulator to intervene in the running of a company before it reaches the position of being unable to meet its liabilities

Question 6

Recovery plan when insolvency is in doubt may include: (3)

Answer 6

• Changing investment strategy to invest in assets that better match liabilities
• Increasing the amount of reinsurance the company has in place
• Limiting the levels of new business sold

Question 7

Closure to new business considerations

Answer 7

• Unlikely to be able to re-open - regulator would not permit it unless company has substansially more than the min cap requirements built up
• May be able to start writing business again if significant initial charges are included in products, unattractive
• If company maintains the infrastructure (staff, premises, systems) to enable it to re-open, these costs will be a further drain on capital while no business is being written
• In longer term disconomies of scale will bite, and further action will be needed

Question 8

Issues to be addressed and modelled when projecting solvency (6)

Answer 8

• Estimation of future post-tax profits available to equity shareholders
• Current value of all surplus assets
• The amount, and timing, of any loan or debt redemption
• Problems relating to industrial relations and redundancies
  * Insurer’s relationship with its employees and trade unions
• Issues relating to any staff benefit schemes - particularly if these schemes are in deficit
• Outstanding financial obligations, minority interests and tax

Question 9

Acquisition of business considerations (4)

Answer 9

• Location of the operation
• Integration of the systems platform
• Relocation of staff or whether there is an adequate labour force available
• Effect on unit costs

Question 10

Compensation scheme description

2

Answer 10

• Statutory scheme form which some or all benefit payments are paid when liabilities cannot be met by company and no buyer can be found
• Usually funded by a levy from all other providers

Question 11

2 Types of closure of a benefit scheme

Answer 11

• Closed to new members but existing members’ benefits continue to accrue
• Closed to new members and no further benefits accrue to existing members

Question 12

Types of closure depends on:

Answer 12

• Whether sponsor is insolvent
• Needs to reduce costs
• Whether employer wishes to follow market trends in benefit provision
• For DB, scheme rules will need to set out the benefits that wil be provided on discontinuance

Question 13

Rights vs expectations of beneficiaries

Answer 13

Rights
* Depend on the terms under which the scheme operates and any overriding legislation
* May be benefits that have been or should have been received
* May be what the would have received if they remained in the scheme untill retirement and continued to accrue benefits

Expectations
* Likely to be the benefits that would have been available had the scheme not discontinued
* Decide whether to include:
* Future accrual of benefits
* Future growth (earnings-linked)
* Any discretionary benefits

Question 14

Additional assets available to secure discontinuance benefits

Answer 14

• Legislation or ethics may lead to extra funds being made available by a solvent sponsor
• Legislation may require debt to be placed on an insolvent sponsor, may rank above, alongside or below other creditors
• Insurance may have been taken out that ensures the sufficiency of assets in the event of the insolvency of the sponsor
• May be state-sponsored fund to support benefits when sponsor is insolvent - may be paid for by levy from solvent schemes

Question 15

Allocating surplus considerations

Answer 15

• Legislation may require surplus to be used to increase the benefits
• May be passed back to the sponsor
• Allocation to individual beneficiaries may be done, taking into account length of membership or other factors which give indication of the extent to which members have contributed to the surplus
• Allocate to different categories of members - some may feel they are treated unfairly

Question 16

Options for provision of outstanding benefits once scheme is discontinued (6)

Answer 16

• Gradual removal of the liabilities by continuation of the scheme without any further accrual of benefits (usually temporary)
• Transfer of liabilities to another scheme with the same sponsor
• Transfer of funds to beneficiary to extinguish the liability
  * Legislation may not allow an individual to receive capital value of their benefits
  * Alternative may exist that allows individual to place the funds with insurance company or in scheme of new employer
• Transfer of funds to an insurance company to invest and provide a group policy or an individual policy for each beneficiary
• Transfer of the liabilities to an insurance company to guarantee the benefits
• Transfer the liabilities to a central discontinuance fund operated on a national or industry-wide basis