Principles and Practices of Financial Management (PPFM)

Transcription

1 Principles and Practices of Financial Management (PPFM) TEACHERS ASSURANCE FUND Version 2 1 August 2017

2 Contents CONTENTS 1. Introduction The methods used to guide the determination of the appropriate amount payable to individual with-profits members The approach to setting annual bonus rates applicable to with-profits policies The approach to setting final bonus rates applicable to with-profits policies The approach to smoothing the value of with-profits policies The significant aspects of the investment strategy The exposure of the with-profits business to business risk The application of charges and expenses to with-profits policies The management of the inherited estate Volumes of new business and arrangements on stopping taking new business Equity between the with-profits fund and any shareholders Schedule Appendix 1 Policy types Appendix 2 Glossary of terms and abbreviations LVFS TA Fund Principles and Practices of Financial Management

3 Introduction 1. Introduction 1.1 Company Information The Teachers Assurance Fund (TA Fund), a closed sub-fund within the insurance business of the Liverpool Victoria Friendly Society Limited (LVFS, the Society), was established on 1 June 2016 to hold the with-profits business transferred from Teachers Provident Society Limited (TPS, Teachers) to the Society, as approved by the members of TPS, confirmed by the Prudential Regulation Authority (PRA) and registered by the Financial Conduct Authority (FCA). An Instrument of Transfer (the Instrument), a legal document, governs the operation of the TA Fund. The Principles and Practices set out below are all subject to compliance with the requirements of the Instrument. LVFS was founded in 1843 as a burial society. It is the UK s largest friendly society and, as a mutual organisation, has no shareholders, being owned by its members. The Society is incorporated under the provisions of the Friendly Societies Act It is authorised by the PRA and regulated by the FCA and the PRA. 1.2 Purpose of a PPFM The Principles and Practices of Financial Management (PPFM), required by the FCA, govern how a company conducts its with-profits business. 1.3 Core Principles of the Transfer The terms of the transfer require the TA Fund to be managed in accordance with t following principles (the "Core Principles"): the TA Fund, including its investment and bonus policy, shall be managed in a sound and prudent manner, having regard to the interests and reasonable expectations of the TA Fund policyholders. In determining the interests and reasonable expectations of the TA Fund policyholders, the Society s Board shall have regard to the management of Teachers prior to 1 June 2016, to the terms of the Instrument; and to the statements made in the Teachers Circular and in the reports made by the Teachers' Actuarial Function Holder, the Teachers' With-Profits Actuary and the Independent Actuary on the Transfer; the TA Fund shall be managed without regard to the financial position, performance and experience of the rest of the Society s insurance business or any other Society Group Company or any assets and liabilities thereof and shall have no exposure to profits and losses arising from experience or business activities unrelated to the TA Fund. Similarly, the Society s insurance business other than the TA Fund shall be managed without regard to the financial position, performance and experience of the TA Fund or any assets or liabilities thereof and shall have no exposure to profits and losses arising from experience or business allocated to the TA Fund. Without 3 LVFS TA Fund Principles and Practices of Financial Management

4 Introduction (continued) prejudice to the generality of the foregoing, the inherited estate of the TA Fund shall only be used to support the business of the Society which is not allocated to the TA Fund or of any other Society Group Company on terms other than arm's length terms (as reasonably determined by the Society Board) in circumstances where this is required by law or regulation; and the TA Fund will be managed with the objective of distributing all the assets of the TA Fund (including the inherited estate of the TA Fund) in as equitable a manner as possible over the remaining lifetime of the withprofits policies allocated to the TA Fund. The Core Principles shall only be amended with the approval of the PRA and FCA and of the Society s With-Profits Committee. 1.4 Products Covered This PPFM is applicable to all conventional and unitised with-profits policies in the TA Fund, including those conventional with-profits policies that formed part of the transfer of business from Teachers Assurance Company Limited to TPS on 30 June The with-profits policies contained within the TA Fund are primarily savings products that offer guaranteed minimum payouts to policyholders on maturity or death. A list of policy types and whether they are classified as conventional or unitised with-profits business is provided in Appendix The Principles The Principles are enduring statements of the standards the Society follows when managing the with-profits business within the TA Fund. These Principles cover duties to the with-profits policyholders in the Fund in both current and future business and economic environments, compliance with relevant regulation and legislation, and the need to be fair to all policyholders. The Principles are not expected to change often. However, there are no restrictions on the Society s ability to change them, where appropriate, subject to satisfying the relevant regulatory requirements, including giving three months prior notice. 4 LVFS TA Fund Principles and Practices of Financial Management

5 Introduction (continued) 1.6 The Practices The Practices are more detailed descriptions of how the Society responds to shortterm changes to the business and economic environment. The Practices may be changed from time to time and the information below only reflects current practice. There are no restrictions on the Society s ability to change the Practices, beyond any requirements set out in regulations or in the Instrument. Some Practices are shown separately for conventional with-profits policies and for unitised with-profits policies, to recognise that there are differences in how the two types of with-profits policy operate. 1.7 Monitoring Compliance and Governance The Board of Directors of the Society (the Board) produces an annual report to policyholders (available on the website or on request) on the Society s compliance with the PPFM. It is the responsibility of the Board to ensure that the Society manages the with-profits business within the TA Fund in accordance with the Principles and Practices set out in this document. A With-Profits Actuary (WPA) has been appointed to advise the Board on its exercise of discretion in managing the with-profits business within the TA Fund. A report from the With-Profits Actuary to the with-profits policyholders in the Fund is included within the Board s annual report. The Society also has a With-Profits Committee (WPC) to provide independent judgment on material issues in assessing compliance with the PPFM. The With- Profits Committee may also include a report to with-profits policyholders within the Board s annual report if it deems it appropriate. The WPC must include an individual (the Teachers Nominee) who is independent of the Society. The first Teachers Nominee was nominated by the Teachers Board and any subsequent appointments will be made on the recommendation of the WPA to the TA Fund. The terms of reference of the WPC are available on the Society s website ( 1.8 Changes to the PPFM The PPFM is reviewed at least annually to ensure that it continues correctly to reflect the Principles and Practices that are applied to the with-profits business within the TA Fund. Any proposed changes are reviewed by the WPC and approved by the Board, after considering advice from the WPA, before the changes are implemented. Holders of with-profits policies affected by this PPFM will be notified of proposed changes to any Principles in this document at least three months in advance. The FCA will also be notified of the proposed change. 5 LVFS TA Fund Principles and Practices of Financial Management

6 Introduction (continued) Holders of with-profits policies affected by this PPFM will be notified of changes made to any Practices in this document as soon as is reasonable. 1.9 Consumer-Friendly PPFM A consumer-friendly version of the PPFM (CFPPFM) is available on the website or on request. This document contains key information from the PPFM. For the avoidance of doubt, in the event of a conflict, the PPFM will take precedence over the CFPPFM Schedule and Glossary A Schedule of disclaimers is shown at the end of this document, with the key terms and abbreviations used within this PPFM defined in Appendix 2. 6 LVFS TA Fund Principles and Practices of Financial Management

7 Amount Payable 2. The methods used to guide the determination of the appropriate amount payable to individual with-profits policyholders Principles 2.1 The aim is to pay out an amount due under a with-profits policy that: is consistent with safeguarding the solvency of the TA Fund and treating all policyholders fairly and equitably relative to their reasonable expectations; includes any relevant guaranteed benefits; represents an equitable distribution of surplus (in accordance with the Principles set out in section 9); and follows the approach to smoothing of payouts (in accordance with the Principles set out in section 5). 2.2 Approximate methods will be used to determine payouts where in the opinion of the Board the cost of developing a sophisticated approach is not warranted. This may mean that results could be materially different if less approximate methods were used. 2.3 The Board will not change the historical assumptions or parameters used to calculate asset shares, where they relate to a period prior to 1 June 2016 except where necessary to correct any errors or omissions. The Board might change the historical assumptions or parameters relevant to methods used from 1 June 2016 if it can be clearly demonstrated to the Board, having received advice from the WPA and the recommendations of the WPC as appropriate, that a significant class of policyholders has been materially disadvantaged. Practices - All With-Profits Policies 2.4 The standard payouts under with-profits policies have regard to the calculation of asset shares. The main items used in calculating asset shares are: premiums less relevant expenses less tax less cost of death cover plus profits or losses from policy terminations plus, for eligible policies, profits arising in 2014 from TPS business risks (known as Mutuality Bonus) plus, for eligible policies, distributions of the inherited estate of TPS made before 1 June 2016 (known as Special Mutuality Bonus) less the cost of guarantees and smoothing where policy conditions permit all accumulated with investment returns to the date of calculation. 7 LVFS TA Fund Principles and Practices of Financial Management

8 Amount Payable (continued) 2.5 The accumulated value of any distributions of the TA Fund inherited estate made from 1 June 2016 as Special Bonus (as described in section 9) does not increase asset share but is added at claim to the greater of the standard payout and any guaranteed benefits that are payable. Special Bonus cannot be paid out prior to the claim that terminates the policy. 2.6 Asset shares are credited with the actual, net of tax where applicable, investment returns earned by the pool of assets backing asset shares plus, for conventional withprofits products only, an estimated investment return over the remainder of the bonus review period based on long-term economic assumptions and asset mix. 2.7 The allowances for tax deducted from investment returns, or credited in respect of tax relief on expenses, are based on the rules and rates of tax specified by HM Revenue and Customs, allowing for the tax status of each policy and the tax position of the TA Fund in each year. Any difference in tax amounts deducted from asset shares and payable by the TA Fund is taken from or added to the TA Fund inherited estate (see paragraph 9.1). 2.8 The Instrument imposes certain restrictions on the amounts that can be charged to the TA Fund for administration and investment services as described in paragraph 8.2. In addition the expenses deducted from asset shares for certain policies are capped in accordance with TPS s practice prior to 1 June 2016 as described in paragraph 8.6 or are the policy charges as described in paragraph 8.8. Any expenses charged to the TA Fund and not charged to asset shares are charged to the TA Fund inherited estate. 2.9 The costs of life cover charged to asset shares are based on reviews of the experience of the TA Fund with-profits policies Deductions can be made from the asset shares for the cost of any relevant guarantees and options, and use of capital. The Board, on the advice of the WPA and the WPC, can introduce a change to these practices if it considers it is appropriate in order to reflect more accurately the asset share for these polices. Any differences in costs arising from policy guarantees and options, or from smoothing of payouts (see section 5), compared to the deductions made from asset shares are charged or credited to the TA Fund inherited estate A uniform asset mix for asset shares has been used to date, but for the future the asset mix may vary by level of guarantee or the duration of with-profits policies. This may occur, for example, to improve equity between different cohorts of policyholders or between conventional and unitised with-profits policyholders or when there is a legal requirement to do so All surrender values are subject to any surrender charges specified in the policy terms and conditions. Guarantees do not apply on early surrender or termination other than for the Guaranteed ISA on certain guarantee dates and for the Teachers Anniversary Bond on the tenth policy anniversary Formal records are maintained each time that bonus rates and amounts payable to with-profits policies are reviewed, with the WPA and WPC giving their views on the bonus recommendations to the Board. This process includes the storage of computer files used in each bonus review exercise. 8 LVFS TA Fund Principles and Practices of Financial Management

9 Amount Payable (continued) 2.14 The actual investment return achieved by the TA Fund is documented and reviewed internally. A similar control approach would be followed if changes were proposed to the underlying methodology or parameters The Society manages the TA Fund so that the discretionary benefits under withprofits policies are calculated and paid disregarding, insofar as is necessary for policyholders to be treated fairly, any liability to make payments under the Subordinated Debt. Practices - Conventional With-Profits Policies 2.16 The following methods are used to determine the standard payouts for the main products listed below (see Appendix 1 for more information): Tax Exempt Series 1 Tax Exempt Series 2 and 2A Taxable Series 1 Taxable Series The standard payout to conventional with-profits policyholders consists of the total of the sum assured, annual bonuses and a final bonus if appropriate. It is based on a calculation of asset share as described in paragraph 2.4 and following paragraphs. In normal circumstances the Board s aim is to make a standard payout on maturity of between 85% and 115% of asset share, subject to a minimum payout of the guaranteed benefits. Over the longer term the aim is that the standard payouts on maturity will average 100% of asset share, subject to a minimum payout of the guaranteed benefits and the impact of the smoothing policy in section Conventional with-profits policies are grouped by policy term to determine the current and projected asset shares for a representative policy. The percentage of the asset share used to determine standard payouts, before smoothing, is decided by the Board based on advice received from the WPA and WPC. In determining this percentage the Board will consider the solvency of the TA Fund, the expectations of policyholders and the requirement to treat customers fairly. If necessary in order to ensure the future solvency of the TA Fund can be adequately maintained, the Board may reduce the percentage of the asset share that is used to determine standard payouts on maturity. It is likely in such a situation that this percentage will be within the lower part of the range quoted in paragraph The standard payouts on surrender for conventional with-profits policies will tend to fall within 80% to 120% of asset share The payout ranges that are quoted in paragraphs 2.17 and 2.19 as being a percentage of asset share are target ranges. They will apply to most maturing or surrendering policies, excluding those classes of products referred to in paragraph However it is not guaranteed that each standard payout on a policy will necessarily fall within the applicable range. In order to maintain fairness and treat policyholders equitably, it may be appropriate in the future to apply different target ranges to groups of policies of different types and bonus series For other smaller classes of conventional with-profits products, the same rates of annual and final bonus are used as for the main products stated above. These other smaller classes are: 9 LVFS TA Fund Principles and Practices of Financial Management

10 Amount Payable (continued) Tax Exempt Whole of Life Plan - uses Tax Exempt Series 1 bonus rates Taxable Whole of Life Plan - uses Taxable Series 1 bonus rates Practices - Unitised With-Profits Policies 2.22 The following methods are used to determine standard policy payouts for the products listed below (see Appendix 1 for more information): Teachers Anniversary Bond Tax Exempt/Tax Free Savings Plan (Series 1) Tax Exempt/Tax Free Savings Plan (Series 2) Regular Savings Plan Guaranteed Savings Plan Guaranteed Growth Bond Guaranteed ISA Guaranteed Growth ISA 2.23 The standard payout on surrender of a Teachers Anniversary Bond will equal the bid value of units less any specified surrender charge plus a final bonus if appropriate. The standard payout is targeted to be between 85% and 115% of asset share less any specified surrender charge. Over the longer term the aim is that the standard payout on surrender will average 100% of asset share, subject to a minimum payout of the guaranteed benefits due on the tenth policy anniversary. If necessary in order to ensure the future solvency of the TA Fund can be adequately maintained the standard payout on surrender may approximate to the asset share through the application of a Market Value Reduction (MVR) to the bid value of units, though no MVR will be applied in the circumstances described in paragraph The standard payout to unitised Tax Exempt/Tax Free Savings Plan (Series 1) and Regular Savings Plan policyholders represents 100% of asset share, subject, on the maturity date only, to a minimum payout of the higher of a return of premiums plus any annual bonuses or the smoothed asset share explained in paragraph The standard payout to unitised Tax Exempt/Tax Free Savings Plan (Series 2) and Guaranteed Savings Plan policyholders represents 100% of asset share less any amount excluded on surrender, subject, on the maturity date only, to a minimum payout of the higher of a return of premiums or the smoothed asset share explained in paragraph 5.6. The value of any Mutuality Bonus and Special Mutuality Bonus added is excluded for payouts on surrender during the first five years. For Guaranteed Savings Plans, the value of any matched premiums is also excluded for payouts on surrender during the first five years The standard payout to Guaranteed Growth Bond and Guaranteed Growth ISA policyholders represents 100% of asset share, subject, on the maturity date only, to a minimum payout of a return of premiums plus the stated guaranteed rate of return. The guaranteed minimum amount will be adjusted for any withdrawals taken during the term of the policy. 10 LVFS TA Fund Principles and Practices of Financial Management

11 Amount Payable (continued) 2.27 The standard payout to Guaranteed ISA policyholders represents 100% of asset share, subject, on guarantee dates specified in the policy conditions, to any minimum guarantee amounts The payout range that is quoted in paragraph 2.23 as being a percentage of asset share is a target range. It will apply to most surrendering Teachers Anniversary Bonds. However it is not guaranteed that each standard payout on a policy will necessarily fall within the applicable range. In order to maintain fairness and treat policyholders equitably, it may be appropriate in the future to apply different target ranges to groups of policies of different types and bonus series. 11 LVFS TA Fund Principles and Practices of Financial Management

12 Annual Bonus Rates 3. The approach to setting annual bonus rates applicable to withprofits policies Principles 3.1 The aim is to set an annual bonus rate for each bonus series that: increases the guaranteed benefits on applicable with-profits policies to reflect a proportion of actual and anticipated risk-free investment returns on the TA Fund; leaves a margin between policyholders asset shares and guaranteed benefits; and ensures that the future solvency of the TA Fund can be adequately maintained. 3.2 To allow for the different characteristics of with-profits policies, the aim is to maintain separate bonus series according to: the tax status of the policy; the type of policy - conventional or unitised; and the premium rate series used to calculate the guaranteed benefits. Practices - Conventional With-Profits Policies 3.3 Separate scales of annual bonus are used for the following series of conventional with-profits business (see Appendix 1 for more information): Tax Exempt Series 1 Tax Exempt Series 2 and 2A Taxable Series 1 Taxable Series The annual bonus for conventional with-profits policies increases the amount of guaranteed benefits and is declared in two parts: a bonus rate expressed as a percentage of the sum assured; and a bonus rate expressed as a percentage of the annual bonuses added to the policy to date. 3.5 For conventional with-profits business the main factors in deciding the rate of annual bonus are: an aim that the guaranteed benefits of a policy do not represent an unduly large percentage of asset shares. The effects of poor investment returns may mean this aim may not be met at all times leading to minimal rates of annual bonus. maintaining the adequacy of the on-going solvency position of the TA Fund under a range of economic scenarios allowing for the cost of the current bonus declaration and the assumed rates of future bonus consistent with each scenario. the sustainable rate of annual bonus in the future. 3.6 Annual bonus rates are reviewed at least once a year as at the end of the financial year. In normal circumstances the Society would not expect to change the rate of 12 LVFS TA Fund Principles and Practices of Financial Management

13 Annual Bonus Rates (continued) annual bonus for any bonus series by more than 1.5% in a twelve month period. If necessary in order to ensure the future solvency of the TA Fund can be adequately maintained, or if risk-free investment returns are low, annual bonus rates could be set at low levels, or even zero. 3.7 At each bonus review interim annual bonus rates are declared which will apply for all policy claims that arise during the subsequent period up until the next bonus declaration date, which will normally be in the following financial year. These interim bonus rates will be based on the considerations described above. Practices - Unitised With-Profits Policies 3.8 Separate scales of annual bonus are used for the following series of unitised withprofits business (see Appendix 1 for more information): Teachers Anniversary Bond Tax Exempt/Tax Free Savings Plan (Series 1) Regular Savings Plan 3.9 The annual bonus increases the amount of guaranteed benefits. It is expressed as a percentage of the accumulated unit value and is applied by increasing the unit holding. The main factors in deciding the rate of annual bonus are: an aim that the guaranteed benefits of a policy do not represent an unduly large percentage of asset shares. The effects of poor investment returns may mean this aim may not be met at all times leading to minimal rates of annual bonus. maintaining the adequacy of the on-going solvency position of the TA Fund under a range of economic scenarios allowing for the cost of the current bonus declaration and the assumed rates of future bonus consistent with each scenario. the sustainable rate of annual bonus in the future Annual bonus rates for the Teachers Anniversary Bond are currently reviewed once a year, as at the end of the financial year. Annual bonus rates for Tax Exempt /Tax Free Savings Plan (Series 1) and Regular Savings Plan are currently reviewed at quarterly intervals. In normal circumstances the Society would not expect to change the rate of annual bonus for any bonus series by more than 1.5% in a twelve month period. If necessary in order to ensure that the future solvency of the TA Fund can be adequately maintained, or if risk-free investment returns are low, annual bonus rates could be set at low levels, or even zero The following series of unitised with-profits business do not have an annual bonus (see Appendix 1 for more information): Tax Exempt/Tax Free Savings Plans (Series 2) Guaranteed Savings Plans Guaranteed Growth Bond Guaranteed ISA Guaranteed Growth ISA 13 LVFS TA Fund Principles and Practices of Financial Management

14 Final Bonus Rates 4. The approach to setting final bonus rates applicable to withprofits policies Principles 4.1 Final bonuses may be added to terminating policies to ensure that the standard payouts represent a fair return reflecting the experience of the TA Fund while the policy has been in force. 4.2 To allow for the different characteristics of with-profits policies, the aim is to have differing final bonus rates that reflect: the tax status of the policy; the type of policy - conventional or unitised; the premium rate series used to calculate the guaranteed benefits; the duration in force of the policy; the accrued guaranteed benefits of the policy; and the smoothing of payouts. 4.3 Final bonus rates can be amended at any time with the aim of maintaining fairness and treating policyholders equitably. Practices - Conventional With-Profits Policies 4.4 Final bonus rates for conventional with-profits policies are reviewed at least annually, currently quarterly. They may be reviewed more frequently if necessary in order to ensure the future solvency of the TA Fund can be adequately maintained if the level of standard payouts significantly exceeds the asset share or if there is a significant change in the value of the assets backing asset shares. 4.5 The following scales of final bonus (also called terminal bonus on some types of withprofits product) are used (see Appendix 1 for more information): Tax Exempt Series 1 Tax Exempt Series 2 and 2A Taxable Series 1 Taxable Series The final bonus for conventional with-profits policies is declared as a bonus rate that varies by the term (or duration) of a policy and is currently expressed as a percentage of the annual bonuses added to the policy to date. Final bonus forms part of the standard payouts on policies arising from maturity, death or surrender. 4.7 After having calculated the standard payouts on maturity in accordance with section 2, final bonus rates for each bonus scale are calculated for each integral policy term using the excess (if any) of the standard payout on maturity over the guaranteed benefits. 14 LVFS TA Fund Principles and Practices of Financial Management

15 Final Bonus Rates (continued) 4.8 Final bonus rates are calculated for each bonus series for representative policies at specimen durations. The final bonus rates at other durations are determined taking into account these rates. This is done in order to avoid policyholders with only small differences in policy term (or duration) from receiving materially different final bonus rates. 4.9 For conventional with-profits policies final bonuses are included in the calculation of surrender values, which are based on a formulaic approach in order to approximate to asset shares In accordance with paragraph 2.5, any Special Bonus payable at claim (as described in section 9) is added to the standard payout by increasing the final bonus that otherwise would be paid or, if only guaranteed benefits are paid, by adding a final bonus. Practices - Unitised With-Profits Policies 4.11 The Teachers Anniversary Bond is the only unitised with-profits policy that uses a final (terminal) bonus The final bonus on death or surrender for the Teachers Anniversary Bond is set as a percentage of the accumulated unit value. The percentage is calculated using the excess (if any) of the standard payout for an individual policy in accordance with section 2 over the accumulated unit value The effects of recent economic experience are considered as part of the derivation of the total standard payout for the Teachers Anniversary Bond, as described in paragraph If this means that a MVR is applicable to the unit value, then no final bonus would be payable There is no final bonus paid on the following unitised with-profits products: Tax Exempt/Tax Free Savings Plan (Series 1) Tax Exempt/Tax Free Savings Plan (Series 2) Regular Savings Plan Guaranteed Savings Plan Guaranteed Growth Bond Guaranteed ISA Guaranteed Growth ISA For these products the method of determining standard payouts ensures asset share is paid, subject to the minimum of any guaranteed benefits or, for regular premium policy maturities only, the smoothed asset share (as explained in paragraph 5.6). 15 LVFS TA Fund Principles and Practices of Financial Management

16 Smoothing 5. The approach to smoothing the value of with-profits policies Principles 5.1 The aim of smoothing the standard payout under applicable with-profits policies is that: the standard payouts on individual policies in adjoining periods of time should reduce the effect of short term fluctuations experienced in investment returns and other sources of profit or loss; all types of with-profits policy, allowing for the types of claim that may arise, are treated in a fair, equitable and consistent manner; and the smoothed amounts paid out do not have a materially adverse effect on the solvency position of the TA Fund. It is not intended for smoothing, over the longer term, to be a source of profit or loss. 5.2 The Board, on the advice of the WPA and WPC, reserves the right to change, when appropriate, the smoothing policy and the surrender bases for with-profits policies. On unitised policies, a MVR can be applied if the change in asset values is deemed significant. This may be necessary in circumstances when investment markets show a significant decline in one or more consecutive years, or if necessary in order to ensure the future solvency of the TA Fund can be adequately maintained. Practices - All With-Profits Policies 5.3 The smoothing approaches may vary for each product type and bonus series, though the same approach will apply to all with-profits policies of the same product type and bonus series. The Society does not set a period over which it intends smoothing to be neutral. Similarly, it does not set an overall limit to the accumulated cost of, or excess from, smoothing. Any costs or excesses from smoothing are charged to the TA Fund inherited estate. Practices - Conventional With-Profits Policies 5.4 The Board aim to restrict or limit the change in standard payouts on maturities from one year to the next for conventional with-profits policies of the same term. The limit will depend on the level of solvency of the TA Fund, the total cost of smoothing and the expected future changes in standard maturity payouts. In normal circumstances standard payouts are not expected to vary from year to year by more than 10%, subject always to the payment of the guaranteed benefits attaching to a policy. During periods of exceptional circumstances the change in standard payouts may exceed this percentage in order to treat all policyholders fairly and equitably, whether it be with regard to ensuring policyholders receive their fair share of the assets of the TA Fund or to maintain the on-going solvency of the TA Fund. The Board may also decide to exceed the 10% limit on the change in standard payouts, where the financial effect is small, in order to treat policyholders equitably. 16 LVFS TA Fund Principles and Practices of Financial Management

17 Smoothing (continued) 5.5 The smoothing effects on standard payouts arising from death or surrender from the above approach will follow on from the practices described in section 2. Standard payouts on death will fully reflect the smoothing approach. Standard payouts on surrender may only benefit from a small degree of smoothing due to the aim of paying out approximately the asset share. Practices - Unitised With-Profits Policies 5.6 The calculation of the standard maturity payout for regular premium unitised withprofits products (Tax Exempt Savings Plan/Tax Free Savings Plan (Series 1 and Series 2), Regular Savings Plan and Guaranteed Savings Plan) is described in paragraphs 2.24 and The smoothed asset share used as an element in the calculation is based on an asset share smoothed over a period of 24 months prior to a policy s maturity date. Changes in standard payouts to maturing policies are not constrained and will vary according to the outcome for each individual policy as described in paragraph MVRs are not applicable. The standard payouts on death or surrender are not subject to smoothing. 5.7 The standard payouts under the Teachers Anniversary Bond are not subject to smoothing. Any final bonus is added to the unit value to bring the standard payout up to the asset share. During periods of exceptional circumstances a MVR can be applied to the unit value to bring the standard payout down to the asset share. Surrender charges may also be applied. 5.8 The circumstances when the MVR on the Teachers Anniversary Bond is not applicable are on: the tenth policy anniversary date death payouts regular withdrawal payments up to 5% of the original single premium, unless a MVR was being applied at the time the regular withdrawals commenced. 5.9 The standard payouts under the Guaranteed Growth Bond, the Guaranteed ISA and the Guaranteed Growth ISA are not subject to smoothing. 17 LVFS TA Fund Principles and Practices of Financial Management

18 Investment Strategy 6. The significant aspects of the investment strategy Principles 6.1 The aim of the investment strategy for the TA Fund is to invest in a diversified portfolio of investments to maximise long term returns subject to the strategy being consistent with that communicated to policyholders from time to time; the need to invest to meet all guarantees given to policyholders; and the aim of maintaining a level of capital in the TA Fund in line with the risk appetite set by the Board. 6.2 The investment strategy for the TA Fund will take account of the level and nature of with-profits policy guarantees, along with the available capital of and risk appetite for the TA Fund. The investment strategy for the pool of assets held in excess of those backing asset shares (and which includes the TA Fund inherited estate and distributions of Special Bonus) may differ from that backing the asset shares. 6.3 The exposure to single counterparties is limited in each asset class to manage the degree to which a counterparty default would affect the investment return on the TA Fund. 6.4 The Board does not rely on any assets outside the TA Fund in setting investment strategy. 6.5 The Fund uses derivatives and other instruments for the purpose of efficient portfolio management or to hedge specific liabilities and not for speculation. 6.6 The investment strategy can change from time to time. 6.7 Control limits will be applied for each asset class and an independent custodian will be used to hold relevant assets. Practices - All With-Profits Policies 6.8 The Board has overall responsibility for the investment strategy and risk management of the TA Fund taking advice from the WPA, the WPC, the Life Chief Actuary and the Society s management. The Society currently formally reviews in detail the long-term investment strategy for the TA Fund at least every three years, though typically less detailed reviews are performed annually. The investment outlook and performance are monitored periodically between formal reviews when tactical decisions may be made. Board approval is required before tactical investment decisions outside the previously agreed long-term investment strategy can be implemented. 6.9 The investment strategy reflects the level of guarantees relative to asset shares, past distributions of the TA Fund inherited estate and the solvency of the TA Fund. The resulting overall mix of assets will vary over time The main classes of asset held by the TA Fund are UK and overseas equities, property, fixed and index-linked interest-bearing securities (UK and foreign 18 LVFS TA Fund Principles and Practices of Financial Management

19 Investment Strategy (continued) government bonds, corporate bonds), deposits and cash. The assets are either held directly or through collective investment schemes The TA Fund may obtain investment exposure to various classes of asset through the purchase of collective investment schemes, such as unit trusts, offered by external companies. Dealings in collective investment schemes are subject to the normal terms and conditions governing their operation Credit risk exposure is reviewed by the Society with changes being proposed as a result of changes in credit risk outlook or to safeguard the on-going solvency of the TA Fund. The total investment in fixed and index-linked interest bearing securities issued by any single issuer is limited. Any changes to the credit risk profile or to the investment limit are reviewed by the WPA, the WPC and the Life Chief Actuary and approved by the Board All investment recommendations for new types of assets are reviewed by the Society s management, the WPA, the WPC and the Life Chief Actuary, with final approval being obtained from the Board The assets of the TA Fund are split into two pools of assets: one pool for the asset shares of the TA with-profits policies and a separate pool for the assets held in excess of the asset shares (and which includes the TA Fund inherited estate and distributions of Special Bonus) For the pool of assets backing asset shares, each class of asset has a long-term asset allocation target expressed as a percentage of the total value of these assets. Changes in the target may be proposed by the Society as a result of investment management recommendations, due to changes in investment return prospects or to safeguard the on-going solvency of the TA Fund. All changes to the asset allocation targets are reviewed by the WPA, the WPC and the Life Chief Actuary and approved by the Board. The percentage held in equities and/or property could potentially reduce to zero. The long-term asset allocation target in place as at the date of this document is as follows: Asset Type Target Asset Mix UK equities 35.0% Overseas equities 17.5% Property 7.5% UK government interest-bearing securities 17.5% Other interest-bearing securities 17.5% Deposits and cash 5.0% 100.0% The actual asset allocation for each class may vary by +/-5% around the target. Details of the current asset mix are available on the Society s web-site ( or can be obtained directly from the Society The current investment strategy for the pool of assets backing asset shares allows the use of derivatives to manage sharp falls in equity markets. The Board may 19 LVFS TA Fund Principles and Practices of Financial Management

20 Investment Strategy (continued) approve an extension of their use in the future should it become appropriate to use such assets to manage the risks faced by the TA Fund The asset shares of all with-profits policies in the TA Fund have the same target asset allocation as detailed in paragraph The assets backing conventional withprofits policies and the Teachers Anniversary Bond are managed separately from the assets backing unitised with-profits policies (except the Teachers Anniversary Bond). The actual asset allocations of the two groups of policies may therefore differ from time to time for practical reasons The long-term investment strategy for the separate pool of assets held in excess of those backing asset shares (and which includes the TA Fund inherited estate and distributions of Special Bonus) is invested in fixed interest-bearing securities and cash; the returns on this pool of assets are attributable to the TA Fund inherited estate and the distributions of Special Bonus The pool of assets referred to in paragraph 6.18 will contain a small allocation of property assets until their disposal. This pool of assets also includes a subsidiary company, Sovereign Unit Trust Managers Limited (SUTM). SUTM is a dormant company and is expected to be wound-up in due course Other than SUTM, none of the assets held in the TA Fund are expected to be illiquid. 20 LVFS TA Fund Principles and Practices of Financial Management

21 Business Risk 7. The exposure of the with-profits business to business risk Principles 7.1 The TA Fund is not permitted to undertake any new business risks except in the very limited circumstances described in section Transactions with or for the account of the TA Fund relating to contracts for material services, including investment management services, or any transfer, exchange or reallocation of policies, property or liabilities or provision of capital support between the TA Fund and any other fund of the Society or any other Society Group Company are only to be undertaken on terms which the Society s Board reasonably considers to be arm s length terms, having taken the advice of the WPC and WPA, other than where required by law or regulation. The provision of capital support from the TA Fund to any other fund of the Society or any other Society Group Company will only be undertaken where required by law or regulation. 7.3 The Society will use all reasonable endeavours to mitigate any liability which may arise for the TA Fund and will consult with the WPC on the mitigation of any such liability likely to be in excess of 250, The control over existing business risk is monitored at least annually by the Board which takes account of the current and projected financial strength of the TA Fund. 7.5 The profits or losses from all business risks within the TA Fund are borne by the TA Fund inherited estate (see paragraph 7.7). Practices - All With-Profits Policies 7.6 Profits and losses may arise from the following business risks within the TA Fund: Voluntary termination of with-profits policies One-off or non-recurring expenses including any funding costs arising from any shortfall in the assets held separately by the Society to back the liabilities of the TPS Staff Pension Scheme. Unanticipated differences between the expenses charged to the TA Fund and the expense charges made to asset shares Relevant guarantees and options attaching to policies Policyholder compensation and other exceptional costs Smoothing of policy payouts and bonuses SUTM e.g. from any unitholder compensation costs The TA Fund will not have exposure to profits and losses arising from the experience or business activities of any other fund of the Society or any other Society Group Company. 7.7 Any profits or losses will form part of the TA Fund inherited estate. 21 LVFS TA Fund Principles and Practices of Financial Management

22 Business Risk (continued) 7.8 Policyholders in the TA Fund are not eligible for the mutual bonus discretionary addition made by the Society to allocate profits from business risks from its own Long-Term Insurance Fund to eligible policies. 22 LVFS TA Fund Principles and Practices of Financial Management

23 Charges and expenses 8. The application of charges and expenses to with-profits policies Principles 8.1 The aim in applying charges and expenses to with-profits policies is to ensure that each with-profits policy bears its fair share of each type of charge and expense, subject to any constraints imposed by policy conditions, bonus series, TPS Rulebook or the Instrument. Practices - All With-Profits Policies 8.2 Expenses and charges to the TA Fund are determined in accordance with Schedule 1 to the Instrument. In summary, under the terms of the Instrument: The amount charged in respect of administration services in the period 1 June 2016 to 31 May 2017 will be the actual costs incurred by the Society, subject to a cap equal to the amount incurred by TPS for administration in 2013 increased by the increase in the Retail Prices Index plus 1% per annum since 31 December The amount charged in respect of administration services for the following ten years will be calculated by applying a per policy rate of 35 increased by the increase in the Retail Prices Index plus 1% per annum since 18 December 2014, calculated on a monthly basis. The amount charged in respect of investment management services will be the fees payable under the agreement with the investment manager responsible for providing asset management services for the assets in the TA Fund from time to time. The amount charged in respect of taxation will be calculated, so far as is practicable, on the basis that the TA Fund is a separate friendly society carrying out no other business than that allocated to the TA Fund. 8.3 Subject to the terms of the Instrument, expenses that are considered by the Board to be exceptional or non-recurring are met from the TA Fund inherited estate - for example, expenditure involving compensation for mis-selling which occurred prior to 1 June However, under the terms of the Instrument, the Society may not pay any amount in respect of any fine or penalty or any compensation and redress from the TA Fund arising from the management and operation of the TPS business on or after 1 June 2016 except to the extent that the fine, penalty, compensation or redress arises from the appropriate use by the Society prior to 1 June 2018 of TPS s systems and processes. 8.4 Investment management services for the TA Fund are obtained from BlackRock Investment Management Limited (BR). The Investment Management Agreement with BR can be terminated from August 2017 with 6 months notice without any penalty costs or at an earlier date if certain performance targets are not met. 8.5 The Society obtains a range of out-sourced services from independent suppliers. These contracts are either for fixed terms and contain provisions enabling the Society 23 LVFS TA Fund Principles and Practices of Financial Management

24 Charges and expenses (continued) to terminate the contract and implement an agreed exit plan where there has been a breach of specified conditions in the contracts or are for no fixed term where the services can be ceased with immediate effect. These arrangements are monitored for performance against agreed Service Levels. 8.6 The total expenses actually charged to asset shares for conventional with-profits policies and the Teachers Anniversary Bond may differ to the expenses incurred by the TA Fund for reasons such as those described below: the expenses other than investment expenses charged to individual asset shares are capped each year at the level charged in 2013 plus the increase in the Retail Prices Index since that time, subject to any constraints imposed by policy conditions, bonus series or the TPS Rulebook. the investment expenses deducted from individual asset shares are capped each year at the percentage of asset share charged in No deductions to asset shares for the expected costs of guarantees, options and use of capital and smoothing are currently made for conventional with-profits policies. 8.8 For the Teachers Anniversary Bond a deduction is made to assets for the first ten years for the expected cost of guarantees. No deductions are made for options and use of capital and smoothing. 8.9 For unitised with-profits policies (except Teachers Anniversary Bond) the charges taken to cover expenses, the cost of guarantees and any cost of smoothing are those which are set out in policy conditions. Where the level of a charge is not guaranteed, it may be varied by the Society in accordance with policy conditions, subject to the requirement to treat customers fairly. 24 LVFS TA Fund Principles and Practices of Financial Management

25 Inherited Estate 9. The management of the inherited estate Principles 9.1 The inherited estate means the excess of the value of the assets of the TA Fund over a realistic assessment of the liabilities of the TA Fund and provides the working capital for the TA Fund. The Board manages the TA Fund s inherited estate through regular monitoring of its size and its ability to undertake the uses as referred to below while preserving the ability of the TA Fund to meet its commitments to its policyholders. The TA Fund inherited estate: will be managed for the purpose of safeguarding the solvency of the TA Fund; will be managed with the aim of treating the policyholders in the TA Fund fairly and equitably relative to their reasonable expectations; will be used to provide investment freedom; will be used to meet regulatory capital requirements; will be used to support the smoothing of payouts to the with-profits policyholders in the TA Fund when appropriate; will be used to provide capital for the TA Fund, including to cover the costs of meeting guarantees; and will be used to providing working capital to cover any mismatch in timing between the receipt of charges applied to policies in the TA Fund and the actual expenses incurred in the maintenance of those policies. The Board does not set a target range for the size of the inherited estate, though its size has regard to the Principles in paragraph The following principles will be used to distribute the TA Fund inherited estate: At all times the Society will aim to maintain the TA Fund inherited estate at the level needed to manage the TA Fund effectively. As the TA Fund is closed to new business, it will run-off over time, and the absolute level of the TA Fund inherited estate will reduce. When the Board judges it appropriate to do so, it will make distributions from the TA Fund inherited estate, normally as Special Bonus. All distributions will be made entirely to the TA Fund with-profits policies. Distributions will only apply to those TA Fund with-profits policies still in-force as at the relevant declaration date, apart from a distribution in 2016 which will include with-profits policies in TPS or the TA Fund that have been the subject of a maturity or death claim since 18 December 2014 or that have surrendered since 1 June 2016, and will be shared among all such policies. The Board will not make a distribution from the TA Fund inherited estate if doing so would breach the TA Fund s risk appetite (i.e. if it would reduce the security of policyholder benefits to an unacceptable level). The Board may decide to claw-back part or all of previous distributions from the TA Fund inherited estate that have been notionally allocated to those TA Fund with-profits policies still in-force if in not doing so it would breach the TA Fund s risk appetite. 25 LVFS TA Fund Principles and Practices of Financial Management