Varma - Annual Report 2012

Insurance risks

Pension insurance risks include:

  • the management of the complex information systems that maintain the production of services,
  • risks related to the functioning of the centralised earnings registers and outsourced services, and
  • possible errors in the processing and payment of pensions or in the calculation and collection of insurance contributions.

With online services expanding, malfunctions in the company’s internal systems and the public infrastructure will affect the production of services.

The TyEL component of the earnings-related pension system functions on a partially funded basis. Around one fifth of the pensions paid each year is previously funded, while the remaining part is a pooled component, which is covered by an annually collected insurance contributions. The funded parts of the pension are the responsibility of individual pension institutions, while the pooled components are the joint responsibility of all the pension institutions.

The provision for pooled claims contained in the technical provision acts as a buffer for jointly managed insurance business. The amount of the provision for pooled claims in the entire earnings-related pension system is estimated to correspond to nearly a year’s PAYG pension expenditure. The clearing system eliminates the effects caused by the varying development of the pension insurance institutions’ active insurance portfolios. Thus the cost of the pooled components presents no risk for the individual pension institution.

Basic pensions under the Self-employed Persons Pensions Act YEL are financed in full by the insurance contributions collected annually in accordance with the pay-as-you-go system and by the State’s contribution and do not present a risk for the individual pension institution.

The level of earnings-related pension cover is based on a defined benefit pension scheme, and is therefore not based directly on the return on funded pension assets. Earnings-related pension benefits are secured for the insured and pensioners by a statutory joint and several liability for bankruptcy that applies to all earnings-related pension insurance institutions. The costs of pension provision are borne by employers and employees together. The Ministry of Social Affairs and Health annually confirms the common calculation bases concerning the technical provisions for earnings-related pension insurance companies. The calculation bases include issues such as actuarial assumptions used in the calculation of technical provisions, for example, mortality and disability incidence rate. Under the TyEL act, the technical bases must be secure and, should the base for technical provisions prove insufficient for all earnings-related pension insurance institutions, the technical provisions can be supplemented with a clearing system.

The risks of Varma’s insurance business are linked to the sufficiency of the insurance contributions collected and the technical provisions accumulated from them in relation to the pensions that are the company’s responsibility. Because common calculation bases can be changed annually, and the clearing system acts as a buffer for all insurance risks concerning earnings-related pension insurance institutions, the risk for an individual pension institution lies in its deviation from the average of the pension system.

The equalisation provision, which contains a risk-theory-based lower and upper limit, helps the companies to prepare for fluctuations in their annual insurance business results. Varma’s equalisation provision under TyEL was approximately EUR 1,071 million at the end of 2011, which is about 6.1 per cent of the total payroll of the insured. The corresponding risk components included in TyEL contributions totalled approximately 4.0 per cent of the total payroll in 2012.

The greatest fluctuation in the insurance business relates to disability pensions. In terms of the disability and unemployment pension component, the amount of Varma’s equalisation provision corresponds to the funded pension expenditure of more than three years.

Technical provisions are calculated per person and insurance during the spring following the financial year in an annual calculation, after employers have provided the required earnings data. The Finnish Centre for Pensions carries out the clearing in the autumn following the financial year, at which time the remaining components of the technical provisions can be calculated. The calculation of the technical provisions in the Financial Statements is based on estimates.

According to the annual calculation, the structure of Varma’s technical provisions on 31 December 2011 was as follows:

€ million%
TyEL basic insurance
Provision for unearned premiums
Future old-age pension liabilities14,11048.6
Future disability pension liabilities4061.4
Provision for future bonuses1,5565.4
Provision for current bonuses740.3
Equity-linked provision for current and future bonuses-181-0.6
Total provision for unearned premiums15,96455.0
Provision for claims outstanding
Current old-age pension liabilities6,88923.7
Current disability pension liabilities1,5825.5
Current unemployment pension liabilities150.1
Provision for pooled claims2,90310.0
Equalisation provision1,0713.7
Total provision for claims outstanding12,45942.9
TyEL basic pension insurance, total28,42498.0
TEL compliant supplementary pension insurance, total5722.0
YEL basic pension insurance, total180.1
YEL compliant supplementary pension insurance, total30.0
Total technical provisions29,017100.0
Of payroll,
€ million%
TyEL equalisation provision, 31 Dec. 2011
Old-age pension component370.2
Disability pension component8064.6
Unemployment pension component480.3
Contribution loss component1801.0
Lower limit for the equalisation provision262
Lower limit for the equalisation provision1,321

Neither the age structure of the employees insured by Varma nor the employers’ size or lines of business deviate significantly from the average for all earnings-related pension institutions, and the company’s equalisation provision is somewhat higher than the average. Thus Varma carries no risk relating to an atypical insurance portfolio.

Risk management in insurance business applies insurance technique analyses. Insurance risks are analysed using, for example, risk assumption analysis (mortality, disability intensity), financial statements and business result analysis (insurance technique, distribution of responsibility) and, for example, when compiling statistics on contribution losses and disability pension expenditure. In drawing up the financial statements, in particular the estimate of the insured’s payroll may deviate from the final sum. This is reflected in the company’s premium income and the amount of technical provisions, but hardly affects the company’s result.

Until 31 December 2012, the risks involved in the assets covering technical provisionserminology/" class="glossary-link">technical provisions, i.e. primarily investment risks, were provided for by the solvency capital, whose amount was monitored in relation to the technical provisions and the limits calculated on the basis of investment allocation and other limits. Thus, solvency capital provided the company with a buffer for years in which the return on the assets covering the technical provisions was below the interest credited on technical provisions.

Some regulations related to investment operations and solvency were amended for a fixed period of time in the latter part of 2008. The legislation was extended to 31 December 2012. Until then, the EMU buffers, as they are called, included in the provision for pooled claims were used temporarily to support solvency capital, and the minimum solvency capital limit was lower.

As of the beginning of 2013, the earlier solvency capital and the equalisation provision were combined to form a new buffer, which will be used to carry the risks related to both investments and insurances. The calculation of the solvency limit was also adjusted, and in future it will take into account the insurance risk. At the turn of the year, Varma’s solvency capital remained at the same level as when calculated according to the temporary legislation. The changes raised the solvency limit by about 0.7 percentage points.

A part of the interest credited on technical provisions (10%) is determined retroactively and is based on the pension-insurance companies’ actual equity returns. An equity-linked provision for current and future bonuses, which is between -10 per cent and +5 per cent of the technical provisions, helps the insurance companies to carry the risks involved. If a pension institution’s equity returns differ from the average, it must employ its solvency capital to carry the risks that this involves. When the average equity return is calculated, the weight of the largest pension institutions is limited to 15 per cent.

The following table presents the allocation of investments and certain other items according to solvency group at year-end.

€ million%
Money-market instrument1,7475.0
Bonds and obligations12,87736.5
Real estate5,81716.5
Miscellaneous investments1,9405.5