A pension provider’s solvency is measured by determining whether the assets invested exceed the technical provisions with a sufficient margin. Pension providers can prepare for investment and underwriting risks by using their solvency capital. In the main, solvency capital consists of the shareholders’ equity, the differences between market and book values and the provision for current and future bonuses. The provision for future bonuses serves as a buffer against both investment and underwriting risks.

Company and industry-wide pension funds have the option of including in the solvency capital a separate item based on the employer’s obligation to pay an additional contribution. This item can be used to strengthen the pension fund’s risk-bearing capacity.

The regulations on solvency only pertain to private-sector pension insurers, i.e. pension insurance companies, company pension funds and industry-wide pension funds.

Solvency limit

The solvency limit is a capital requirement used for monitoring pension providers. A pension provider that does not attain the limit will be subject to regulatory action. The greater the risks involved in the pension provider’s investments are, the higher is the solvency limit.

By applying risk theory, the solvency limit is defined so that it corresponds to one year’s need for solvency capital, taking into account both the risks of the underwriting business and the risks of investments. The solvency limit is calculated on the basis of the entire investment portfolio. When calculating the solvency limit, pension providers must identify the risks associated with each investment, as well as the underwriting risk. Risks are taken into account in accordance with the risk character prescribed by law. One and the same investment may be subject to many different risks. The expected return on investments and the interdependence between various risk factors are also taken into account in calculations.

By law, investment risks are divided into 18 categories:

Risk categories 1-5: equity risk
Risk category 6: interest rate risk
Risk categories 7-10: credit margin risk
Risk categories 11-12: real estate risk
Risk category 13: currency risk
Risk category 14: commodity risk
Risk category 15: required rate of return risk
Risk category 16: underwriting risk
Risk category 17: residual risk
Risk category 18: other risks

In addition, the solvency model takes account of market risks, the counterparty risk, the concentration risk, the leverage ratio, and risks associated with derivative contracts and indirect investments. The calculation model enables increasingly flexible preparation for the development of investment instruments. If necessary, new risks can be added to the calculation.

If the solvency capital of a pension company exceeds the solvency limit, or if the solvency capital of a company pension fund or an industry-wide pension fund exceeds the solvency limit by a factor of 1.3, no extra restrictions are imposed on the pension provider’s activities.

If the pension provider’s solvency capital falls below the solvency limit, the pension provider must submit a plan for improving its financial position to the Financial Supervisory Authority. If the pension provider’s solvency capital falls below the minimum requirement for capital, which is one third of the solvency limit, the pension provider must submit a short-term financial plan to the Financial Supervisory Authority.

Customer rebates of pension insurance companies

By following certain rules, pension insurance companies can grant their customers discounts on pension contributions. This discount is called the customer rebate. The granting of rebates depends on the pension insurance company’s solvency.

If the pension insurance company’s solvency capital falls below the solvency limit, the company may not distribute customer rebates. If the pension insurance company’s solvency capital exceeds the solvency limit, rebates can be distributed according to actuarial principles so that they are at most 1.0 per cent of the solvency capital amount plus the management cost surplus.

The maximum solvency capital for pension insurance companies is three times the solvency limit, but no less than 40 per cent of the technical provisions minus the provision for future bonuses. If the pension insurance company’s solvency capital exceeds the maximum solvency capital in two consecutive years, the pension insurance company must increase the rebate amount over the normal maximum rebate. A surplus is not distributed all at once. First the company distributes one third of the amount by which the solvency capital exceeds its maximum.

Control limits

Rebates, or discounts on contributions, granted by company pension funds and industry-wide pension funds

Company pension funds and industry-wide pension funds can use their provision for current and future bonuses to reduce the contribution. The provision for current and future bonuses can be used to reduce the contribution until the solvency capital is not less than 1.3 times the solvency limit. Thereafter, the provision for current and future bonuses can still be used to reduce contributions by a sum that equals 1.0 per cent of the solvency capital without the item based on the employer’s obligation to pay an additional contribution.

If the solvency capital of a company pension fund or an industry-wide pension fund falls below the solvency limit, the provision for current and future bonuses may not be used to reduce the contribution. The provision for current and future bonuses can then be accrued by contributions. If the solvency capital exceeds its maximum (= three times the solvency limit), more of the provision for current and future bonuses must be used to reduce the contribution.

A company pension fund or an industry-wide pension fund can also use contributions to accrue its provision for current and future bonuses up to the maximum amount of the solvency capital.