Key takeaways
Buy-out involves multiple steps
From buy-in to termination, each stage brings distinct legal and practical considerations.
Early scheme preparation matters
Getting benefits, data and powers into shape early reduces risk and delay.
Buy-out delivers finality
Insurance removes long term funding, governance and benefit risk for trustees and sponsors.
A growing number of defined benefit pension schemes are now well funded and targeting buy out as their endgame. For trustees and sponsors, insurance offers certainty and allows long running governance and funding obligations to come to an end.
However, buy out is not a single step. From a legal perspective, it is a structured process with distinct stages, statutory requirements and decision points.
Set out below is a high-level overview of the legal aspects involved in the buy-out process, explaining how schemes typically move from buy in to buy out and ultimately to scheme termination.
Stage 1 – buy in: making the scheme insurable
A buy in is an insurance policy held as a scheme asset. The trustees continue to pay members’ benefits, but those payments are reimbursed by the insurer.
At this stage, the legal focus is on ensuring the scheme’s liabilities can be insured with confidence. This typically involves confirming trustee powers under the Trust Deed and Rules, identifying gaps or weaknesses in historic documentation, ensuring member data can be shared lawfully with the insurer and producing a benefit specification which accurately reflects the scheme rules in practice. Any inconsistencies between the rules and historic administration, or unexercised trustee discretions, need to be addressed so that benefits are sufficiently certain to insure.
Once these steps are completed and the insurer’s policy terms and benefit specification have been legally signed off, the buy in can be entered into and held as an asset of the scheme.
Stage 2 – triggering wind up: committing to buy out
Where trustees expect to proceed to buy out and termination imminently, the next step is usually to trigger wind up.
Triggering wind up is a significant and almost always an irrevocable legal decision and should only be taken once the trustees are ready to progress the scheme through to completion. From a legal standpoint, this involves confirming the wind up power and process under the trust deed and rules, considering employer debt and section 75 implications and ensuring the correct statutory notices are issued to members and the Pensions Regulator.
Once wind up is triggered, trustees are expected to proceed actively and without unnecessary delay. The Pensions Regulator expects schemes to be fully wound up within two years of wind up being triggered. This two year period operates as a regulatory ceiling. Where it is exceeded, trustees must report to the Pensions Regulator and explain the reasons for delay.
At the end of this stage, the scheme is formally in wind up and committed to moving forward to buy out.
Stage 3 – buy out: securing benefits with the insurer
Buy out is the point at which responsibility for paying benefits transfers from the trustees to the insurer.
Legally, this involves converting the buy in policy into individual member annuities. Trustees need to review and sign off the insurer’s buy out conversion documentation to ensure all intended liabilities are fully secured, including any historic insured benefits. Statutory notices must be issued and trustees will usually want to ensure that available statutory protections and discharges are properly engaged. Consideration is also often given at this stage to trustee run off insurance.
Once buy out completes, members’ benefits are entirely secured with the insurer.
Stage 4 – final termination: no more scheme
Following buy out, the scheme has no remaining liabilities to members. The final legal step is bringing the scheme to an end.
This typically involves dealing with any surplus in accordance with the scheme rules and legislation, completing any required member notices or consultation and executing a deed of termination and indemnity. At this point, the scheme ceases to exist and the trustees’ powers and duties come to an end.
Common legal pressure points
Even well funded schemes can encounter issues that affect timing or the ability to enter a buy-out policy. Common examples include missing amendment or closure documentation, differences between the scheme rules and historic administration and complexities arising from GMP equalisation.
Identifying and addressing these points early is often key to progressing smoothly to buy out and completing wind up within regulatory expectations.
How we can help
Our Pensions team regularly advise trustees and sponsors on all stages of the journey to buy out, from buy in readiness through to wind up and termination. We have extensive experience supporting transactions of all sizes and helping schemes navigate legal risk, regulatory requirements and common problem areas.
If you would like to discuss the legal aspects of progressing your scheme to buy out, please get in touch with a member of our pensions team.
