19th November 2009 Issue No: 47 Pensions Bulletin IMG case reveals elephant traps when closing to future accrual? A High Court ruling concerning a pension scheme which in the early 1990s attempted to convert accrued final salary benefits to money purchase benefits may have implications for employers currently seeking to close their final salary schemes to future accrual. The IMG pension scheme was originally set up as a final salary pension scheme in 1977. Crucially, as it turned out, the trust instrument setting up the scheme contained a restriction on the power to alter the scheme that no amendment shall have the effect of reducing the value of benefits secured by contributions already made. A later version of the alteration power omitted this restriction. In 1991 the employer announced to the members that the scheme was converting from a final salary basis to a money purchase one. The proposal was that the accrued final salary pension rights (with an uplift financed by the actuarial surplus in the scheme at the time) be converted to money purchase account balances. The proposal did not include any guarantee that the money purchase benefits would be underpinned by the value of the forgone final salary benefits. Members were given announcements and asked to confirm that they wished to continue to be members on the amended terms. The professional trustee, appointed in 2006, became concerned about the validity of the conversion and approached the Court for directions. The deed attempting to convert the final salary benefits was held by the Court to be ineffective so far as final salary benefits accrued up to the date of the conversion were concerned. This was because the restriction on the alteration power legally survived the recasting of the alteration power and the effect of the restriction was to require the money purchase benefits to be underpinned by the value of the final salary benefits. The employer attempted various counter arguments, principally that the member consents operated to in effect contractually override the restrictions to the alteration power. The Court rejected this line and also the suggestion that the members were estopped (either by representation or convention) from claiming that there should be an underpin. The Court also held that the legal restrictions on the alienation of benefits in section 91 of the Pensions Act 1995 operated so as prevent the members from signing away their final salary rights. Comment It is tempting to dismiss this case on its particularities. Furthermore, this conversion to money purchase was taking place in a different era before the statutory protections for accrued rights in section 67 of the Pensions Act 1995 came into force, which would have prevented this type of conversion. But to do so would be unwise. The case (which may yet be appealed) may be pertinent to current times, particularly to employers who are attempting to close their final salary schemes to future accrual. Just as with IMG, a scheme s deed may contain or have contained at some point in the past an insurmountable restrictive amendment power. And it may not always be possible to short-circuit obstacles in the trust deed by obtaining member consent. www.lcp.uk.com
The last thing an employer successfully closing a scheme to future accrual would want is for nearly twenty years to pass, as in the IMG case, only to find that closure was not legally watertight. As such, this case further highlights the importance of scheme sponsors obtaining legal advice at an early stage. Auto-enrolment Are cost fears overdone? Fears of additional costs being forced on small employers as a result of the 2012 auto-enrolment requirements might be overdone. This is one of the findings emerging from a qualitative survey of small employers carried out for the Department for Work and Pensions (DWP). According to the survey, most small employers believe that the majority of their employees who are currently not in, or not provided with access to, a pension scheme will opt-out (although they did recognise that inertia was likely to impact on the extent to which this happened). Other key findings published in the DWP research report are as follows: There was very low awareness of the reforms among all the small employers and no-one had taken any steps towards preparing for their implementation. There was broad support for the general aims of the reforms, although the economic climate at the time of the fieldwork meant that the employers were most concerned about any increases to the cost of their businesses. Employers found it difficult to identify the strategies they would use to implement the reforms and estimate the level of the associated costs. This was at least in part due to their lack of previous awareness of the detail of the reforms. There is concern that the DWP had overlooked the time required for seeking external advice, underestimated the time needed to inform employees of the reforms and process any opt-outs and not provided sufficient clarity on the process for refunds. Employers held mixed views on the phasing-in of money purchase contributions, with larger companies not already contributing to a pension and employers who would outsource the administration agreeing it was a good idea, but those already contributing to pensions feeling it would cause confusion and add costs. There was however consensus that the any phasing-in should be by reference to the tax year (the Government is currently proposing October). Employers not already providing pensions, or paying less than 3% contributions indicated that they would contribute no more than the minimum 3%, and tended to suggest that bonuses or salaries would be a better way to attract or retain staff. Those already offering pensions to part of their workforce with more than a 3% contribution rate seemed inclined to extend the benefit to the rest of the workforce on the same basis. Not unsurprisingly, when asked how they would manage any additional pension contributions in three specific economic circumstances, most employers indicated that in the event of continued economic uncertainty or the beginning of economic recovery they would seek to reduce the wage bill, but that if there Page 2
was full economic recovery they would seek to absorb the costs into their overheads or pass them on to their customers. Rather worryingly though, some employers also suggested that in the event of continued economic uncertainty they might encourage their employees to opt-out of the pension scheme, despite recognising that to do so would be illegal. Corporate Governance New Code for Institutional Investors The Institutional Shareholders Committee (ISC) has published a new (voluntary, but comply-or-explain) code of practice designed to help investors deal more effectively with companies in which they invest. In line with proposals made in June (see Pensions Bulletin 2009/24), the Code has been derived from the ISC Statement of Principles on the Responsibilities of Institutional Shareholders and their Agents. The content of the Code is very similar to this previous Statement, with changes including more emphasis on the management of conflicts of interest and willingness to act collectively with other investors where appropriate. The Code also includes new guidance suggesting that those who act as principals, or represent the interests of the end-investor, should report at least annually to those to whom they are accountable on their policy and its execution. The ISC has also reviewed its constitution to enable it to better support and implement the new code and is in the process of establishing a committee with representation from influential investors, investment trade associations and corporate governance practitioners, which should give the new code additional standing and encourage compliance. Financial Reporting Council Challenges for users of actuarial information The Financial Reporting Council (FRC), the UK s regulator for corporate reporting and governance, has issued an update to the guidance published last year (see Pensions Bulletin 2008/50) suggesting issues that trustees and employers (or any other governing body) should consider when receiving and acting on actuarial information. In particular, the FRC states that governing bodies should consider whether assumptions that were justified a few months or years ago remain valid in the current economic climate. The FRC has concerns in five areas which include whether a previously assumed business model will remain effective under changed circumstances and whether risks hitherto not recognised in stochastic and other models which have been revealed due to the severe stress to risk management systems in 2009 should be recognised financially or by revisions to systems. The update concludes with some questions, arranged under each of the five headings, that members of governing bodies might like to consider as they make decisions based on actuarial information. Queen s Speech Legislative programme for 2009/2010 The Queen s Speech was delivered on 18th November 2009, setting out the government s legislative programme for the 2009/2010 parliamentary session, which is of course the last before the next general election, which must be called by May next year. Of particular interest from a pensions perspective are the Equality Bill which will continue its passage through Parliament, the Financial Services and Business Bill (now renamed the Financial Services Bill) which will now include provision to regulate remuneration in the Page 3
financial sector and the newly introduced Fiscal Responsibility Bill which commits the Government to halving the budget deficit in four years. Perpetuities and Accumulations Act 2009 It is long standing public policy that trusts should not survive forever and must have a perpetuity period by the end of which they must be wound up. Various formulations for the perpetuity period are found in trust deeds but the Perpetuities and Accumulations Act 2009, which has recently received Royal Assent, imposes a perpetuity period of 125 years on all non-exempt trusts. Traditionally charitable and pension scheme trusts have been exempt from the rule against perpetuities and the Act re-states these exemptions. The Act provides for pension schemes to be exempt if they are relevant pension schemes ie occupational pension schemes, personal pension schemes or public service pension schemes. The existing exemptions in pensions legislation are to be repealed when the Act is commenced. There is one significant difference between the new and old exemptions. Previously regulations prescribed that an occupational or personal pension scheme had to be a registered pension scheme under the Finance Act 2004 or a section 615 scheme providing benefits for overseas employees. This requirement will now fall away so it would seem that those employer-financed retirement benefit schemes that also meet the occupational pension scheme definition should now be exempt. HMRC Amendments made to the Scheme Modification regulations Regulations have been laid before Parliament that add a seventh temporary override to scheme rules. Like the original overrides, this one is also applicable from 6th April 2006. The Registered Pension Schemes (Modification of the Rules of Existing Schemes) Regulations 2006 (SI 2006/364) temporarily overrode scheme rules in six areas on 6th April 2006 (see Pensions Bulletin 2006/08 for details). The Registered Pension Schemes (Modification of the Rules of Existing Schemes) Regulations 2009 (SI 2009/3055) see also the explanatory memorandum add that if the rules of an existing scheme as they stood immediately before 6th April 2006 require the agreement, consent, approval or continuing approval from the Inland Revenue or HM Revenue and Customs, in order to make an amendment, then for this purpose only, any such requirement is disregarded during the transitional period (which ends no later than 6th April 2011). Comment These are entirely sensible provisions which were seen in draft in March 2007. It is not clear why there has been such a delay in settling them, especially as they are little altered from the original proposals. Page 4
This Pensions Bulletin should not be relied upon for detailed advice or taken as an authoritative statement of the law. For further help, please contact David Everett at our London office or the partner who normally advises you. Page 5