PRA consults on changes to regulatory treatment for Funded Reinsurance

This long-signalled change is expected to materially increase insurers’ capital requirements for funded reinsurance transactions, reducing incentives for insurers to select such arrangements over other sources of capital.

Why funded reinsurance has moved up the PRA’s agenda

The PRA considers the current regulatory treatment of funded reinsurance to insufficiently capture the associated risk, creating misaligned incentives which has driven increasing reliance on such arrangements to support increasing BPA activity. In recent years, c.15%[1] of BPA liabilities have been ceded via funded reinsurance, with total funded reinsurance exposures rising to c.£40 billion.

The PRA has expressed growing concern about the build-up of risks and adverse impacts associated with these transactions, including:

• Recapture risk: the use of funded reinsurance has led to indirect exposures to complex assets (e.g. illiquid, untraded, private credit-related), leading to increased subjectivity and uncertainty in the quantification of underlying risk. In the event of default, firms are at a risk of recapturing lower quality portfolios onto their balance sheets.
• Concentration risk: the PRA notes that many funded reinsurance counterparties have similar private credit-focussed business models. The correlation of exposures poses risks to market resilience in the event of a downturn - the 2025 Life Insurance Stress Test (LIST 2025) illustrates that the recapture of funded reinsurance arrangements from a single counterparty could have material impacts on firms’ capital positions.
• Competitive distortion: the highly competitive nature of the BPA market has driven firms to increasingly rely on the regulatory “under-pricing” of funded reinsurance; the PRA has observed rising use of lower rated counterparties and risky collateral arrangements.
• Misallocation of capital: the investment practices of funded reinsurance counterparties, who are often based offshore, are weighted towards non-UK assets, reducing capital available for investments which could support the UK economy.

The PRA has increased regulatory focus on funded reinsurance in recent years, conducting a thematic review over the use of funded reinsurance in 2023, and setting out risk management expectations through SS 5/24 in 2024. The PRA has continued to observe growth in the funded reinsurance market and trends of increased risk-taking with the CP 8/26 proposals reflecting a shift from a guidance-based approach to explicit regulations on the quantification of risk.

Key changes proposed in CP 8/26

The PRA is proposing changes to the valuation of funded reinsurance arrangements as assets, through reforms to the calculation of the Counterparty Default Adjustment (CDA).

The PRA has clarified the applicable scope of the CP 8/26 proposals through establishing a formal definition for funded reinsurance arrangements, as a contract under which:

“a reinsurance contract under which a firm transfers to a reinsurer credit risk or market risk relating to annuity obligations that arise under contracts of insurance falling within long-term insurance business class I or obligations that arise under contracts of insurance falling within long-term insurance business class VI”[2]

Thus, these requirements are applicable to funded reinsurance arrangements backing both annuity and capital redemption liabilities. The PRA has included two “carve-outs” from the requirements: intra-group funded reinsurance under certain conditions and temporary reinsurance arrangements in advance of a Part VII transfer.

Under the PRA’s proposal, the CDA applied to funded reinsurance arrangements must equal the Fundamental Spread (FS) for financial corporate bonds corresponding to the Credit Quality Step (CQS) and maturity of each funded reinsurance cash flow. The starting point for deriving the CQS would be the credit rating issued by an external institution. The PRA permits the rating to be adjusted upwards under the following conditions:

1. Adequate collateral: where collateral fully covers premium at inception and is adjusted only for subsequent changes in market conditions and claims experience, the PRA permits a one-notch upgrade to reflect the insurers’ lower exposure relative to an uncollateralised arrangement.
2. Absence of a need for collateral transformation: where the “worst-case” collateral portfolio is 100% MA eligible and mismatches between the collateral and reinsurance cashflows do not give rise to material risk, the PRA proposes that firms may recognise a one-notch upgrade.
3. Credit enhancing nature of collateral: where the weighted average credit rating of the “worst-case” collateral portfolio is higher than the credit rating of the reinsurance counterparty, firms may also recognise a one-notch upgrade.

For the average existing funded reinsurance transaction, firms currently hold capital (across the CDA, SCR and RM) worth 2–4% of the value of the underlying annuity liabilities, compared to 11–15% for similar investments. Under the proposals, the PRA estimates that the capital held for the average existing funded reinsurance transaction would shift to around 10%, materially closing the gap with alternative sources of capital.

The changes are forward-looking and would not apply to arrangements where the risks covered are fully transferred on or before 30 September 2026. This minimises disruption to insurers’ in-force positions and to transactions that are nearing completion. Subsequent transactions would be in scope, with reporting requirements applying from the proposed implementation date of 1 July 2027.

What this means for firms

The changes are expected to reduce the commercial attractiveness of funded reinsurance, given the increase in capital requirements, continuing the cooling of demand for such arrangements resulting from the market’s anticipation of PRA action.

Firms should consider their existing pipeline, including arrangements being discussed with the PRA, assessing the costs and benefits of executing these transactions prior to the 30 September 2026 cut-off date. Firms are also expected to consider their business planning, and capital and risk management strategies. Funded reinsurance could remain as a key risk mitigant for insurers, with increased focus on the credit quality of the counterparty and collateral to obtain a lower charge under the new regulations. The viability of funded reinsurance relative to other asset strategies could lead to greater use of alternate strategies with a higher proportion of directly held assets.

The proposals may have impacts on the wider BPA market - the greater cost of funded reinsurance arrangements may reduce BPA profitability with subsequent impacts on volumes and premiums. However, given the strong capital positions of most BPA writers and the fact that funded reinsurance is currently used by a minority of deals (c.15%), the PRA anticipates that the changes will not materially impact insurers’ ability to write BPA business.

Operational and implementation impacts are expected to be minimal, given the straightforward nature of the changes proposed and the alignment with existing calculations performed by firms.

References

[1] CP8/26 – Funded reinsurance | Bank of England

[2] PRA Rulebook: Funded Reinsurance Instrument [2026]