Usefulness of the article :This article explains how life insurance could serve as a framework for financing the energy and ecological transition (EET).
Summary:
- The energy transition requires mobilizing capital over the long term in sectors related to renewable energy production.
- Life insurance is the financial savings product of choice for French people. Its tax regime encourages savers to make long-term investments.
- The current economic and regulatory environment has contributed to the development of « sustainable » unit-linked products, which can be used to finance the ecological and energy transition (EET).
- Insurers are accelerating their investments in the energy and ecological transition.
The ecological and energy transition (EET) is defined as the transformation of an energy system based on fossil fuels into a mix based on renewable energies.
This transformation requires the mobilization of significant financial resources over the long term in sectors directly or indirectly involved in energy production.
All economic actors must contribute to this transition, particularly those in the financial sector. Insurers can contribute by investing directly in the EET or by directing their clients’ investments in this direction.
With nearly €1.8 trillion in assets under management at the end of 2020, life insurance is now the « star » financial savings product offered by insurers. It is also recognized as the « preferred » investment of the French. Currently, 77% of these assets (approximately €1.4 trillion) are invested directly by insurers via euro-denominated funds[1]. The remaining 23%, or approximately €400 billion, is invested by the client themselves via unit-linked contracts[2] (source: FFA).
Thus, responsibility for investment in the EET is largely borne by the insurer, but also depends on the behavior and convictions of policyholders regarding the direction of their investments. However, the responsibility of policyholders has been reinforced in recent years by the increase in assets invested in unit-linked products.
It is clear that with such a considerable amount of assets under management, life insurance represents a significant financial source for investing in the energy and ecological transition.
Beyond this quantitative aspect, could life insurance really become the key financial savings vehicle for investing in the energy transition? Is its legal and tax structure suited to such investments? Is the current economic and financial environment an opportunity or a threat to using life insurance to support a successful energy and ecological transition?
1) A tax regime that encourages long-term investment
As a reminder, despite the reforms carried out in recent years, life insurance remains an essential tool for ensuring the transfer of wealth. This investment offers the possibility of transferring capital completely tax-free[3] when transferring to a spouse and with a significant allowance in the context of inheritance. Life insurance also offers tax advantages, particularly on capital gains, which are tax-exempt[4] after eight years of holding the policy.
This tax measure has a significant impact on investment strategies. In particular, it encourages the extension of the « duration« or « average life » of investments made in policies.
Tax exemptions and allowances offered in the context of inheritance encourage policyholders to keep their policies until they are transferred.
In many cases, this occurs at an advanced age when the policyholder has held their contract for many years. This age could change in the coming years as life expectancy increases. However, the tax system encourages policyholders to transfer their capital as early as possible by offering more attractive allowances on payments made before the age of 70.
In addition to the advantages associated with transfer, the taxation of capital gains also encourages policyholders to extend the term of their policies. As capital gains are tax-exempt after only eight years, policyholders are encouraged to hold their policies beyond this time frame in order to reduce their tax burden.
As mentioned in the introduction to this article, financing the energy transition requires mobilizing financial resources over the long, even very long, term. Indeed, the government has set the deadline for renewing the energy mix at 2050 as part of its « national low-carbon » strategy.
Thanks to its tax regime, life insurance would therefore appear to be an investment suited to the requirements of financing the EET.
Beyond establishing a favorable and incentivizing framework for long-term investment, life insurance must also be able to offer a satisfactory range of investment products that contribute to transforming our energy mix.
The responsibility for structuring this offering lies with players in the financial sector, particularly insurance companies that market the contracts. Public authorities can also create a regulatory framework that encourages investment in such products.
2) The rise of « green » finance
According to the Ministry of Economy and Finance: « Green finance is a concept that defines financial actions and operations that promote energy transition and the fight against global warming. »
The objective of so-called « green » financial products is to ensure the allocation of resources in the economy by taking into account the environmental aspects of the investments made. Currently, the most popular financial products for financing the energy transition are green bonds. Green bonds work in much the same way as traditional bonds (see diagram in Appendix 1), with the difference that their sole purpose is to finance a specific project related to the ecological and energy transition. The first green bond was issued in 2007 by the European Investment Bank (EIB). However, as the graph below shows, issuance of these products only took off in 2015 following the Paris Agreement.
Historically, most green bonds were issued by governments. France was the leader in issuance in June 2019 (see graph in Appendix 2), but since 2017, companies have also begun to issue green bonds. This diversification of issuers is positive and demonstrates the potential for improvement in the range of « green » products on offer. In addition to green bonds, other products have also been created to enable economic players to finance their transition, such as environmental funds. These funds are financial investments consisting mainly of equities or bonds, but may also include infrastructure such as real estate or forests. Like green bonds, the main objective of these funds is to finance the EET. The chart below shows that the supply of this type of fund has grown rapidly in Europe since 2018.
Sources: Novethic
In addition to the emergence of a market for « green » financial products, the creation of labels such as « Greenfin[7] » has also helped to structure the supply of these products. « Greenfin » is a label established and supported by the French Ministry for Ecological and Solidarity Transition. It guarantees investors that the products they subscribe to effectively contribute to financing the energy and ecological transition. The audit for this label is carried out by Novethic (a subsidiary of the Caisse des Dépôts et Consignations group), whose mission is to award or deny the label to audited financial products and thus measure their « green quality. »
In the same vein, extra-financial rating agencies have also been created to audit companies on the quality of their environmental, social, and governance (ESG) practices. By establishing ratings on the extra-financial performance of companies, these rating agencies make it possible to assess whether the financial products issued by the audited companies can be considered « responsible » or not.
However, this rating approach is not based exclusively on environmental criteria and EET financing, but it does encourage greater transparency in corporate practices.
The development of the « green » finance market has therefore made it possible to structure an offering for investors potentially interested in financing EET. The development of this market gives insurers a wide choice of products to offer in life insurance contracts.
3) Insurers encouraged to offer « green » unit-linked products
The PACTE law, promulgated in May 2019 in the official journal, aims primarily to boost the French economy by supporting business growth and transformation.
In addition to its economic component, the PACTE law also has ecological ambitions and aims to promote the financing of the energy transition. At the end of 2019, the outstanding amount of « sustainable » unit-linked products[8] » units of account held in life insurance policies amounted to approximately €25 billion (source: FFA), or about 6% of the total outstanding amount of units of account held in life insurance policies, a figure that the PACTE law aims to increase by encouraging French people to invest their savings in « green » or « sustainable » financial products.
As a result, since 2020, insurers have been required to offer at least one certified fund in their unit-linked contract offerings. This requirement will be extended to three funds from 2022: insurers will be required to offer at least one fund with an « SRI[9] » label and two other funds with the « Greenfin » or « Finansol » label. In addition, insurers will also be required to inform savers of the percentage of labeled UCs in their contracts.
To help savers understand this new offering, the French Insurance Federation (FFA) has also created a « guide » to responsible investment, which reviews the various existing « sustainable » savings labels and explains the challenges of the PACTE law and responsible saving.
This type of regulation described above was already implemented for employee savings and collective retirement savings in the 2000s. The Fabius Act of 2001, followed by the Economic Modernization Act of 2008, required companies to offer at least one « solidarity » fund as part of their PEE and PERCO plans. The results of these regulatory measures are encouraging, as SRI-labeled savings now account for around 15% of employee savings. As mentioned above, solidarity savings do not only include environmentally-themed products, but they do demonstrate a certain interest among investors in conviction-based savings. This interest could certainly be reflected in life insurance investments.
Although the PACTE law does not specifically contribute to directing investments towards environmental issues, it does encourage insurers to offer unit-linked products that can be used to finance the energy and ecological transition. With a substantial range of products and legal incentives imposed on insurers, life insurance could therefore be a key investment for financing the energy and ecological transition. However, while they can strongly encourage their customers to invest their savings in « green » investments, insurers can also take action on their own investments.
4) Insurers encouraged to « green » their investments
The European Court of Auditors estimates the cost of the energy transition in Europe between 2021 and 2030 at €11.2 trillion, representing approximately €145 billion in investments per year over this period in France[10]. Mobilizing such amounts is a major challenge. Given their special status as « long-term investors, » insurers must be called upon to finance « green » investments that will ensure the transformation of our energy mix.
Although information on the proportion of euro funds invested in « green » investments is not yet available, the trend in insurers’ overall investment in this type of investment is rather encouraging. As shown in the graph below, between 2018 and 2019, the amount of green investments made by insurers increased by 51% to reach €92 billion at the end of 2019[11].
Source: FFA
In 2019, green assets held by insurers represented 3.5% of their total assets, which still leaves considerable room for maneuver to make additional investments in this type of vehicle.
In addition to their growing commitments to « green » investments, insurers are also beginning to divest from fossil fuel investments. Between 2018 and 2019, insurers « divested » approximately €1.3 billion (source: FFA) from the coal sector. At the end of 2019, their exposure in this sector represented 0.5% of their assets (source: FFA), which is seven times less than their investments in « green » assets; this is a rather encouraging development.
Finally, under the PACTE law enacted in 2019, insurance companies will be required, starting in 2022, to:
– Present in their annual report how they integrate environmental and social factors into their investment policy,
– Quantify the proportion of euro funds invested in socially responsible investments that finance the energy transition.
These reports will not focus exclusively on investment in the energy transition, but will nevertheless provide an insight into insurers’ investments in environmental terms. They may also serve as a good incentive to invest in the energy transition.
Although there is still room for improvement, insurers seem to have recognized the importance of investing in the energy transition and divesting from fossil fuel-related sectors. The tightening of the PACTE law from 2022 onwards should also encourage them to step up their efforts.
Conclusion
Given the regulatory framework put in place by the government and the boom in the green finance market, life insurance could well become a key vehicle for financing the ecological and energy transition. Its tax regime is fully in line with the logic of investing in the energy transition. Green finance offerings are becoming increasingly abundant, insurers are being encouraged to include them in their unit-linked contracts, and are accelerating their investments in EET.
By encouraging insurers to offer certified unit-linked products, the government aims to stimulate the supply of « green » products. However, stimulating demand for these products in the context of life insurance could also prove to be a wise move. For example, to promote « green » investments, the legislator could create an increased allowance on capital gains from these investments and/or an inheritance tax benefit on « green » capital transferred by inheritance.
References:
French Insurance Federation (FFA), press kit: Insurers, players in sustainable recovery: insurance figures for 2020 (PDF), March 24, 2021
https://www.ecologie.gouv.fr/strategie-nationale-bas-carbone-snbc
https://about.bnef.com/blog/record-month-shoots-green-bonds-past-trillion-dollar-mark/
https://www.generali.fr/actu/finance-verte/
https://www.novethic.fr/lexique/detail/label-teec.html
https://www.novethic.fr/finance-durable/publications.html
The PACTE law aims to encourage life insurance companies to finance the energy transition
French Insurance Federation (FFA), « Responsible saving through my life insurance… it’s possible! »
PACTE law: three changes to expect in terms of your savings and business financing: https://www.economie.gouv.fr/loi-pacte-changements-epargne-financement-entreprises#
The PACTE law: for business growth and transformation: https://www.economie.gouv.fr/loi-pacte-croissance-transformation-entreprises
Corporate savings funds: virtue is gaining ground:
https://www.lesechos.fr/2018/03/fonds-depargne-entreprise-la-vertu-gagne-du-terrain-987222
https://www.ffa-assurance.fr/etudes-et-chiffres-cles/assurance-et-finance-durable-chiffres-cles-20
Appendix 1: General functioning of a green bond
Sources: Investiforum
Appendix 2: The 15 largest issuers of green bonds in June 2019
Sources: Climate Bond Initiative
[1] A euro fund is a secure financial vehicle in which the subscriber to a life insurance policy can invest their savings. It is managed by the insurer and, in most cases, includes a capital guarantee. Euro funds are mainly invested in bonds.
[2] A unit-linked contract is a non-guaranteed financial instrument, with the investment choice made by the insured. Unit-linked contracts are generally invested in equities or real estate.
[3] Excluding social security contributions
[4] Excluding social security contributions as well
[5] Duration: average life of the cash flows from a financial investment weighted by their present value. The higher the duration, the longer the investment horizon.
[6] Excluding social security contributions
[7] Formerly TEEC
[8]« Sustainable » finance products cover broader investment themes than « green » finance products, which focus mainly on TEE and environmental issues.
[9] Socially responsible investment: a « sustainable » finance label
[10] Calculation based on the weight of French GDP in relation to total European GDP.
