Why DB schemes are buying out

The defining story of the UK life market is insurers buying pensions, tens of billions of pounds of them a year, from the trustees of defined benefit schemes. This lesson tells that story, we start with why the sellers are selling.

Some of the pension related content may feel unfamiliar in this lesson, aspects will be expanded upon in the following lessons, however, for a more throrough understanding take a look at the pensions course for more details.

The promise, and what happened to it

A defined benefit (DB) pension is a promise: work for the sponsoring employer and the scheme commits to paying you an income for life, calculated from your salary and your years of service. The member takes no investment decisions, and the promised pension does not rise or fall with the scheme's investments. The employer carries the risks: market returns, inflation, and the awkward possibility that pensioners live far longer than anyone budgeted for. What the member does carry is the employer covenant: if the sponsor fails with the scheme in deficit, members fall back on the Pension Protection Fund (PPF), which pays less than the full promise.

Those promises proved punishingly expensive to keep, and over recent decades most private-sector DB schemes closed: first to new members, then to new benefit build-up. What remains is a former promise which still needs to be fulfilled. The PPF's Purple Book 2025 counts 4,840 DB schemes in its eligible universe, overwhelmingly closed books of promises that will be paid out over the next half-century. Every trustee board faces the same endgame question: how does this finish? The cleanest answer is to pay an insurer to take the promises over entirely: a buyout. It is not the only answer, and a strongly funded scheme can decide to run on instead, but for most of the 2010s that was a distant ambition anyway, because most schemes were in deficit and could not afford insurer pricing.

The 2022 flip

In 2022 gilt yields rose sharply. DB liabilities are valued as the present value of future pension payments, so when yields rise, the value placed on those liabilities usually falls. Asset values also moved, but for many schemes the liabilities fell by more than the assets, improving their funding position.

How much a scheme benefited depended partly on how much interest-rate risk it had hedged. A more fully hedged scheme would have seen its assets and liabilities move more closely together, so its funding level changed less.

You can see the mechanism in a few lines of arithmetic. The numbers below are invented and deliberately crude (a level £10m a year for 40 years standing in for a pension payroll) but this is exactly the effect that flipped the market. Press Run:

A scheme that was 91% funded is suddenly 104% funded, even though its assets just fell by a fifth. Nothing about the promises changed, only the price of securing them. Try softening the yield rise to 2% and see whether the improvement survives.

The funding turnaround, sourced

Industry data shows how much DB funding improved. By 2025, the overall funding position of UK private-sector DB schemes was much stronger than it had been a few years earlier, and many schemes were much closer to being able to afford a full buyout with an insurer.

Different valuation bases give different funding figures, but the direction is the important part: more schemes had enough assets to seriously consider transferring their pension promises to an insurer. That improvement in affordability helped drive the growth of the bulk annuity market.

Two things people get backwards

Schemes transact from strength, not distress. It is tempting to assume a scheme handing its liabilities to an insurer must be in trouble. The economics run the other way: the premium comes out of scheme assets, with the sponsor writing a cheque for any gap, so a scheme transacts only once it can afford insurer pricing. Buyout is a decision only a well-funded scheme gets to make; the schemes queueing up now are the ones that can finally afford it.

Higher yields helped. "Rising interest rates are bad news for financial institutions" is a reasonable headline instinct and precisely wrong here. For most DB schemes, the 2022 gilt-yield rise cut liability values by more than assets and transformed funding; for the annuity writers who insure them, it was the trigger of the boom, not a crisis to survive.

The shape of the story: promises made, schemes closed, yields flipped the funding, and a queue of well-funded schemes now has a realistic route to the exit. Next lesson: what the trustees actually buy.