Deregulatory review of private pensions Government response

25th October 2007 Issue No: 44 Pensions Bulletin Deregulatory review of private pensions Government response The Government has issued a 50-page response to the Lewin and Sweeney Deregulatory review on possible changes to the regulatory framework for occupational pension schemes (see Pensions Bulletin 2007/31). In the response, the Government sets its face against any changes that would reduce accrued rights. Limited price indexation for pensions in payment is to remain unaltered (at the lesser of 2.5% pa and inflation). The reviewers challenged the Government to send a clear signal to employers to encourage sustainable occupational pension provision, by relaxing the regulatory burden. The Government s response is divided into two parts, proposals and decisions, but there is much detail awaited about the latter. Government proposals The Government is seeking views on proposals to: reduce the cap on revaluation of deferred benefits for all pension rights accrued on or after a future date from 5% to 2.5%; and introduce a statutory override to enable schemes to amend their scheme rules to reflect: the reduction introduced by the Pensions Act 2004 in the cap on limited price indexation from 5% to 2.5% from 6th April 2005 where they are otherwise not able to do so (due to the wording of scheme rules) however, the override cannot be backdated; and any change to the cap on revaluation of deferred benefits mentioned above. It also asks whether it would be appropriate to introduce a third layer of legislation to make provision for a particular type of risk-sharing scheme. This type is very much that put forward by the Association of Consulting Actuaries and would enable schemes to target, but not guarantee, revaluation of deferred pensions and increases to pensions in payment; accrue benefits on a career-average basis; and for benefits to commence at a normal pension age that could move by reference to a longevity index calculated by the scheme actuary. The stay of execution for risk-sharing that this response represents is welcome. But the Government appears to be agnostic on the subject and so it is far from obvious that the idea will be embraced. It is curious that in one of the few areas where the Government is taking a different tack to the reviewers the revaluation of deferred benefits it has managed to add to the regulatory burden. If the sponsoring employer wishes to make the limited cost savings available (the extent of which is dependent on one s views about future inflation), the pension scheme will have to create an additional benefit slice for those with service that straddles the introduction date. Not only is this counter to simplification, but it is inconsistent with previous changes to GMP revaluation. www.lcp.uk.com

Government decisions The Government will: seek a solution to the difficulties thrown up by the employer debt provisions where there is a group reconstruction in a multi-employer scheme this work appears to be on a separate track to the employer debt regulations consultation which recently ended; explore the scope to address concerns about the current requirements which must be met before surplus funds can be returned to the employer the Government is minded to remove the requirement that the trustees must be satisfied that it is in the best interest of members, but has rejected the reviewers suggestion that a return of surplus should, with trustees agreement, be available once the scheme s technical provisions are met a higher threshold, but below buyout, might now be a possibility; move towards a principles-based approach to legislation with the disclosure requirements relating to the day to day running of a pension scheme being used as a test bed ; repeal the safeguarded rights requirements that arise when contracted-out rights are split under the pension sharing legislation and review the remaining legislation applying to pension credit benefits which arise from pension sharing, to make it consistent with the rules applying to personal and occupational pensions; and move to combat widespread misconceptions about the trustee knowledge and understanding requirements by clarifying, with the help of the Pensions Regulator, the effect of the relevant legislation the Government rejects the suggestion that the requirements can be satisfied by considering the collective knowledge and understanding of the trustee board. Finally, the Government s response notes the review s concerns about the post A-day difficulties of trivial commutation, but does not make any further comment other than noting that HM Revenue and Customs are in ongoing discussions with interested parties about this, as announced in the 2006 Pre-Budget Report. The Government states that it belives that these measures are a step in the right direction to support and encourage employers who provide high quality pensions. It is not obvious that these limited measures fit this description. As feared, it appears that the Government has taken the report as their starting point and is not prepared to be radical at least not just yet. The language at the end of the executive summary says it all The Government hopes that the measures proposed will have some influence on decisions yet to be taken on whether or not to keep defined benefit schemes open. Page 2

Transfer values New trustee-driven regime put back by six months On 25th October 2007, Mike O Brien, the Minister for Pensions Reform made a written statement to the House of Commons about the regulations on pension transfer values (see Pensions Bulletin 2007/29). In his statement (see also the press release) he says that, given that a number of respondents asked for more time to get ready before the new regulations take effect, the Government has decided to delay bringing the new regulations into force until 1st October 2008. The existing arrangements for the calculation of pension transfer values will therefore remain in force until that time. This is a welcome development, but it could also be that the Department for Work and Pensions needs more time. Although its draft regulations are going in the right direction, there are many important points of detail that need to be addressed as evidenced by the responses to the consultation. Only once these are resolved should the clock start ticking for trustees to implement the new regime. Pensions Regulator Rapid appointment of independent trustees The Pensions Regulator has announced that it has appointed three independent trustees to the trustee board of the Telent (formerly Marconi) Pension Scheme using its special expedited procedure. This move follows concerns expressed by the trustee board about the potential implications of the proposed acquisition of the balance of Telent plc s shares by Co-investment No.5 Incorporated (CILP), a special purpose (buy-out) vehicle controlled by Pension Corporation. In 2006, Telent (then called Marconi Corporation plc) sold the majority of its group businesses to the Ericsson Group, but not the pension arrangements. At the time, Telent undertook to place funds in an escrow account to meet the potential cost of its pension scheme liabilities. It would only be able to access the escrow funds should the pension scheme become fully funded on a buy-out basis. This September, CILP announced an offer for Telent. Subsequently CILP acquired just over 29% of the stock of Telent (with 2.99% acquired in the market prior to the transaction and 26.39% acquired from a major shareholder). On 24th October 2007 it was announced that CILP had agreed with Telent and the Takeover Panel that it could defer its decision on whether to extend its offer until 31st October 2007. This is intended to give time to assess the implications of the Pensions Regulator s action. CILP and Telent will engage with the Pensions Regulator to seek to clarify the position. Announcement of the percentage accepting the CILP offer before the first close (1pm on 23rd October 2007) has also been deferred to 31st October 2007. In the circumstances it is unclear whether the proposed transaction will proceed. If it does not, CILP would continue (at least initially) to own just over 29% of the shares in Telent. Page 3

Pensions Regulator Promotion of better pension scheme governance The Pensions Regulator has published a report analysing the responses received to its discussion paper on ways of promoting better pension scheme governance, published in April (see Pensions Bulletin 2007/18). The responses show that: there is support for the active promotion of governance by the Regulator; the Regulator should set out principles and avoid more detailed prescription; there is support for the Regulator to help trustees understand how to meet the requirements of legislation; the Regulator should recognise that controls and processes for governance need to be proportionate to the related risks and individual circumstances; governance tends to be more problematic for smaller schemes; and there are strong and diverse views on the Regulator s proposals on contract-based schemes. The main conclusion reached by the Pensions Regulator is that there is no need to change its fundamental approach to the way it regulates schemes. So it intends to continue providing education and support and encourage good practice, rather than increase the regulatory burden on trustees, employers and advisers. Mortality Experience of self-administered pension schemes The Continuous Mortality Investigation (CMI) has published Working Paper 29 updating the results of the mortality investigation into pensioners of self-administered pension schemes to include data from 2000 to 2004. The paper provides a useful analysis of recent mortality experience by pension size and industry classification with comparisons of mortality rates against selected 92 and 00 series tables. The key results are as follows: the mortality rates (ie probability of death) of pensioners of these occupational pension schemes are overall higher than that of pensioners of insured schemes (on which the standard tables are based); when analysed by size of pension, those with greater pensions exhibit significantly lower mortality rates than those with smaller pensions; the overall level of mortality rates varies by the industry classification applied to the scheme this might go some way to explaining the overall result compared to insured lives mentioned above generally the pattern is that those sectors with blue collar workers experience higher mortality rates than industries with more white collar workers (the financial sector has the best mortality), but there are large variations within sectors, so care is needed when interpreting these findings. Page 4

Age Discrimination Freshfields sees off claim by former partner In the first major dispute under the age discrimination regulations, the Employment Tribunal has delivered its judgment (the transcript is not yet available online) in the case of Bloxham and Freshfields. Freshfields, a leading international law firm, has historically provided retired partners with a share of the firm s profits under a complex scheme by which points under the firm s lockstep system are allocated to retired partners. Because of the great expansion of the firm (from 21 partners in 1971 to 511 in 2006) the design of the scheme and the demographics of the partnership were resulting in intergenerational unfairness as the current generation of active partners were required to allocate more of the partnership s profits to retired partners at the same time as they could expect less in their own retirement. The scheme needed to be reformed and Freshfields set about redesign. After extensive consultation, the scheme was revised so as to reduce the proportion of the firm s profits payable to retired partners. The revised scheme was introduced on 1st May 2006. Transitional protection was afforded to partners aged over 50 on 30th April 2006 so that they could elect to retire during a transitional period starting on 1st May 2006 and ending on 31st October 2006. Partners retiring with transitional protection still had a discount applied to their profit allocation. Mr Bloxham was one of these partners and it was this discount that he complained about, alleging it to be discriminatory under the age discrimination regulations which came into force on 1st October 2006 (or 1st December 2006 as they apply to pension schemes). The Tribunal unanimously dismissed the claim. It agreed that discrimination had occurred but it then needed to establish whether it was objectively justifiable. To be so the regulations require that a discriminatory measure be a proportionate means of achieving a legitimate aim. The Tribunal ruled that there was indeed a legitimate aim to provide a scheme that was more sustainable and produce greater intergenerational fairness. The Tribunal also ruled that the proportionality test was not merely met but was comfortably passed. The following factors were of particular importance: the reforms themselves were aimed at addressing an issue whereby, apart from any issues of discrimination, there had been a recognition that younger age groups were becoming increasingly disadvantaged; that in such a process maintaining the status quo for those most proximately affected is acceptable; that maintaining the status quo does not absolve the employer from considering other steps; that improving the position of the group aged 50 to 54, already protected by the transitional provisions, in the context of the aim of the reforms would be and be seen to be both unfair and perverse; and that even at the conclusion of the lengthy and thorough consultation period leading to the reforms and by the end of the Tribunal hearing no less discriminatory alternative could be put forward. Although Employment Tribunal judgments are not binding precedents and it remains to be seen whether Mr Bloxham will appeal, the Tribunal seems to have taken a common sense view of the objective justification defence. The judgment stated that it is an error of law to focus solely on the treatment and not consider the context in which the treatment occurs.. Examining the case, in particular the factors which swayed the Tribunal on the Page 5

question of proportionality, may give some encouragement to employers or trustees who have inherited discriminatory practices which they feel are objectively justifiable. Trust and confidence in pensions and pension providers Research report The Department for Work and Pensions has published the findings of its recent survey of 1,500 members of the public who are not retired which sought to gauge the levels of trust and confidence the public has in pensions and pension providers. The key findings are as follows: only half the respondents consider pensions to be the most secure way of saving for retirement; respondents trust their employers more when it comes to pensions than they do the government or the financial services industry; and recent news stories about pensions are the biggest influence on both trust and distrust. The Government will be disappointed to learn that they are the least trusted when it comes to acting in the best interests of individuals in relation to pension savings no less than 51% of respondents do not trust the Government; less than half this number do not trust their employer. Thoresen review of generic financial advice Interim report Otto Thoresen, the insurance company executive carrying out a review of generic financial advice for the Government (see Pensions Bulletin 2007/29), has published his interim report. Thoresen was appointed by the Treasury earlier this year to research and design a national approach to generic financial advice as part of the Government's long-term approach to improving the UK s level of financial capability. The interim report argues that there is a case for developing a national service for generic financial advice in order to improve financial capability across the UK. Funding should be shared between government and the financial services industry. The report identifies a number of key principles for delivering such a service: impartial from government and the industry, so that the consumer can feel it is on my side ; supportive and informative and persuasive of the need to act; preventative by helping people to take charge of their affairs before serious problems develop; available to all it is anticipated that at some point in their lives everyone will have a need for generic financial advice; Page 6

delivered in an environment which is clearly not linked to a product sale; and able to give guidance, to empower individuals in making decisions, but stop short of recommending a specific product with a specific provider. The cost of the service could be between 39m and 81m pa depending on the delivery model selected. In terms of the type of organisation to be established no recommendation has been reached as to whether it should be a monolithic, centralised organisation or a strategic oversight board with the delivery of advice outsourced to external providers. The final report of the review s findings is expected in early 2008. Pre-Budget Report PPI analysis of the pensions implications The Pensions Policy Institute (PPI) has published a briefing note analysing the potential impact of some of the measures announced in the Pre-Budget Report (see Pensions Bulletin 2007/42). Changes to the State Second Pension (S2P) the PPI argues that the recent outrage in the press about a 2bn stealth tax is misrepresenting a simple technical change brought in to keep the target of having a flat-rate S2P pension by around 2030 in line, after it went out of line thanks to the 2007 Budget. The expected savings to the Treasury this change introduced (relative to the position after the 2007 Budget) will not come about as a result of paying less out in S2P direct to recipients but in fact as a result of paying lower rebates to contracted-out pension schemes. More than two-thirds of this amount would have been paid to defined benefit schemes and these rebates would not have increased the pension income payable by those schemes. However, the PPI concurs that it would have meant that employers and employees could have made lower scheme contributions to receive the same level of benefit. Pension Credit increases the PPI suggests that the Government may need to raise the Savings Credit threshold by more than the increase in average earnings from next April or risk the prospect of the band of income on which pensioners become eligible for the Savings Credit widening. Fund manager accountability Pension Fund Disclosure Code The Investment Management Association (IMA) has recently published a new version of its Pension Fund Disclosure Code. The Code was first developed by the IMA in 2002 to promote voluntary accountability of fund managers to their clients through increased transparency and to assist pension fund trustees in their understanding of the charges and costs levied on the pension fund assets for which they have responsibility. This third version of the Code brings it into compliance with the execution provisions of the Markets in Financial Instruments Directive and the implementing directives which require that appropriate information should be supplied to clients on the investment manager s order execution policy. Page 7

New Government Actuary Trevor Llanwarne The Treasury has announced that Trevor Llanwarne will succeed Chris Daykin as the Government Actuary next spring. Pensions tax simplification Revised forms HM Revenue and Customs (HMRC) has published updated versions of a number of its pensions forms: APSS 151 Add Scheme Administrator although anyone who became a Scheme Administrator since 5th April 2006 is now required to notify HMRC through its pension schemes online facility. APSS 300, 301 and 313 Returns and reports forms and completion notes most of this series, which deals with amendments to event reports and scheme returns, have been updated they can also now all be submitted electronically through HMRC s pension schemes online facility. PSS 199(new) Discontinuance for notifying HMRC of pension schemes which wound up before 6th April 2006. 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. Lane Clark & Peacock LLP provides a full range of actuarial, consultancy, risk analysis and administration services to companies in the UK and internationally. LCP is part of the Alexander Forbes group of companies, employing over 4,000 people internationally. Alexander Forbes is a public company listed on the JSE in South Africa. 30 Old Burlington Street London W1S 3NN Tel: 020 7439 2266 Fax: 020 7439 0183 St Paul s House St Paul s Hill Winchester Hampshire SO22 5AB Tel: 01962 870 060 Fax: 01962 849 802 *PO Box 12 Suite 7, Pollet House St Peter Port Guernsey GY1 4AG Tel: 01481 728 071 Fax: 01481 736 124 *Oriel House York Lane, St Helier Jersey JE2 4YH Tel: 01534 887 600 Fax: 01534 837 888 LCP Belgium Marcel Thirylaan 200 Avenue Marcel Thiry 200 B - 1200 Brussel Bruxelles, Belgium Tel: +32 (0)2 774 9493 Fax: +32 (0)2 774 9257 LCP Libera AG Stockerstrasse 34 Postfach 8022 Zürich, Switzerland Tel: +41 (0)43 817 7300 Fax: +41 (0)43 817 7399 LCP Libera AG Aeschengraben 10 Postfach 4010 Basel Switzerland Tel: +44 (0)61 205 7400 Fax: +44(0)61 205 7499 Actuarial Consultancy of the Year UK Pensions Awards 2005, 2006 & 2007 FT Business Pension and Investment Provider Awards 2007 Investment Consultancy of the Year UK Pensions Awards 2007 FT Business Pension and Investment Provider Awards 2007 All rights to this document are reserved to Lane Clark & Peacock LLP. This document may not be copied or used in anyway without prior permission from Lane Clark & Peacock LLP. LCP is a limited liability partnership registered in England and Wales with registered number OC301436. LCP is a registered trademark in the UK (Regd. TM No 2315442) and in the EU (Regd. TM No 002935583). All partners are members of Lane Clark & Peacock LLP. A list of members names is available for inspection at 30 Old Burlington Street, W1S 3NN, the firm s principal place of business and registered office. The firm is regulated by the Institute of Actuaries in respect of a range of investment business activities. A member of the Multinational Group of Actuaries & Consultants www.mgac.org. Main offices in: AFRICA AUSTRALIA EUROPE NORTH AND CENTRAL AMERICA * No regulated business is carried out from these offices Page 8