Chapter24-Pricing and financing strategies

Question 1

Framework

Answer 1

1 Cost vs price of benefits
2 Factors to consider in calculating the cost of benefits (besides value of benefits, expenses and profit)
3 Cash flows in respect of provisions and solvency capital requirements
4 Impact of a high solvency capital requirement on profits
5 Reasons for difference between price and cost of an insurance contract
6 Ways of financing pension scheme benefits
7 Reasons for actual contribution rate differing from the calculated theoretical cost of benefits

Question 2

Ways of financing pension scheme benefits

Answer 2

1. Pay-as-you-go – benefits are met out of current revenue and there is no funding.
2. Smoothed pay-as-you-go – the same as pay-as-you-go but with a small fund to smooth effects of timing differences between contributions and benefits, short-term business cycles and long-term population change.
3. Terminal funding – a lump sum is set aside to cover all of the expected benefit cost when the first tranche of benefits becomes payable.
4. Just-in-time funding – funds are set aside only in response to an external event such as sale of employer.
5. Regular contributions – funds are gradually built up between promise and first benefit payment.
6. Lump sum in advance – a lump sum is set aside to cover the expected benefit cost when the benefit is promised.