Clifford Chance

On 4 July 2025, the Prudential Regulation Authority (PRA) issued a letter to Chief Risk Officers of life insurance firms engaged in bulk purchase annuity (BPA) transactions. The letter specifically addresses the risks associated with solvency-triggered termination rights (STTRs), following a thematic review that identified an increasing trend in their inclusion within BPA buy-in arrangements.

Understanding Solvency-Triggered Termination Rights (STTRs)

In BPA transactions, schemes have increasingly required STTRs from insurers. These clauses grant pension scheme counterparties the right to terminate the BPA contract if the insurer's solvency ratio breaches a pre-defined threshold for a specified "Cure Period." Should an STTR be triggered, the insurer's relevant liabilities are recaptured by the pension scheme, along with a proportion of the assets used by the insurer to back those liabilities (the "Termination Payment").

STTRs offer schemes a safety valve to mitigate counterparty risk against insurers. However, the PRA's review reveals interconnected risks these clauses introduce for the insurers, particularly when viewed not in isolation, but in aggregate and under stress conditions. The PRA estimate total exposure of life insurers to STTRs, through BPA contracts with an STTR clause in force, to be c.£50 billion.

PRA's Key Concerns

The PRA's review highlighted four potential risks for insurers should STTRs be triggered:

1. Liquidity Impact of Asset Transfers: Insurers may face liquidity risks if Termination Payments disproportionately consist of liquid assets, potentially forcing the sale of other assets at a loss. Challenges in transferring illiquid assets in a timely manner during stress could further exacerbate this.

2. Asset Concentrations: Termination Payments could lead to increased asset concentrations for the insurer if specific asset classes are disproportionately transferred, potentially impacting exposure limits and adherence to the Prudent Person Principle.

3. Contractual Uncertainty: Ambiguities in STTR contractual terms could lead to disputes, particularly concerning asset valuation, quality, and transferability in stressed market conditions.

4. Operational Challenges in Stress: Dealing with STTR terminations during a period of financial and market stress could add significant operational burden, complicating an insurer's ability to execute recovery options.

While the review found that many firms were aware of some of these risks and had taken steps to manage them (e.g., preserving flexibility on asset returns), the PRA concluded that most firms need to do more to adequately consider the full range of risks involved. This includes setting appropriate aggregate exposure limits and planning for financial and operational issues in adverse scenarios where multiple STTR clauses might be triggered simultaneously.

Thematic Findings and Recommended Practices

The PRA also set out their assessment of insurers' current risk management practices and areas for improvement:

• Contractual Timings and Flexibility: Firms that sought contractual flexibility over the asset composition of termination portfolios, sometimes by way of standard term sheets for STTR contractual terms, were deemed to be employing good practice. Such flexibility allowed firms to shape termination payments to limit adverse impacts on liquidity and asset concentrations. Aligning STTR terms to expected buy-out periods and basing cure periods on the time needed for management actions were also noted as beneficial.
• Exposure Risk Appetites/Limits: While some firms have set STTR exposure limits, the PRA recommends further development to ensure these limits are grounded in robust scenario analysis, including assumptions of concurrent terminations and prudent assumptions regarding the transferability of illiquid assets.
• Funded Reinsurance: Firms using Funded Reinsurance arrangements with STTRs should prudently assume "worst case" collateral receipt when setting STTR exposure limits, reflecting the impact of retaining collateral that cannot be included in a Termination Payment.
• Resolvability: The PRA observed insufficient evidence that firms were comprehensively considering the impact of STTR clauses on their resolution planning, particularly how mass terminations could affect the viability of liability run-off.
• Contract Assurance: The PRA stressed the importance of gaining advance assurance on contractual terms and having clear dispute resolution mechanisms, while acknowledging that residual risks will remain due to the untested nature of STTR clauses.
• Implementation Planning: Advance planning to mitigate operational risk on an STTR transaction during stress. Good practice included maintaining an STTR termination plan covering preparatory actions, notification requirements, and actions in case of termination, with enhanced planning at a solvency level well above the STTR trigger point. Testing these plans through "war-gaming" was also highlighted.

Matching Adjustment Considerations

The PRA also reminded firms of their obligations under the Matching Adjustment (MA) rules, emphasising that the contribution of an MA portfolio to any Termination Payment should be limited to the assets held in that portfolio in respect of the terminating contract. Firms are encouraged to carefully consider the impact of STTRs on their ability to meet MA eligibility conditions.

Next Steps

The PRA has requested Chief Risk Officers to consider the points raised in the letter and annex in relation to their businesses and take appropriate remedial actions. The PRA also plans to engage with relevant firms on a case-by-case basis to understand their responses.

Given the competitive nature of the BPA market and the potential for increased aggregate risks, the PRA also plans a follow-up review in 2026. This review will assess how market practices for STTR clauses have evolved and the extent to which firms' risk management approaches have developed. Finally, firms are requested to promptly notify their supervisor of individual BPA transactions containing STTR clauses entered into from 4 July 2025.

Summary of Findings and Recommendations

Firms need to take the following actions:

• Notify the PRA of new BPA transactions with STTR clauses from 4 July 2025.
• Focus on clear contractual terms and dispute resolution processes.
• Insurers must establish clear positions on asset composition of termination portfolios from analysis of risk and impact (including on matching adjustment requirements and interactions with funded reinsurance).
• Consider the impact of STTR on resolution planning and advance STTR planning.

For further discussion on how these developments impact your firm, please contact Cheng Li Yow or Imogen Ainsworth.