Time is ticking away on a particular statutory deadline which, if ignored, may lead to defined benefit pension schemes unexpectedly losing existing powers to make payments of surplus to participating employers except where the scheme is in winding-up.  Trustees of affected schemes who wish to preserve their current powers will need to take urgent action by 6 April 2016 in order to avoid such an outcome.

Background

Under the old tax regime which applied prior to 6 April 2006, in certain circumstances pension schemes were obliged to repay surplus to employers.  This requirement was removed with effect from 6 April 2006.  However, many schemes’ rules had already been drafted to accommodate this requirement, and therefore provided a power to pay surplus to participating employers.  In many cases, the relevant scheme rule specifically cross-referred to the old tax rules to define the scope of the power.  At the same time, section 37 of the Pensions Act 1995, which contains overriding restrictions on repayment of surplus to employers from an ongoing scheme, was materially revamped.

Section 251 of the Pensions Act 2004 was therefore introduced to give trustees of such schemes a transitional power to decide whether to retain their existing powers to repay surplus, and if so, whether to adapt the terms of those powers to take account of the changed tax regime and the revised provisions of section 37.  Section 251 applies to any scheme which was subject to the old (pre-2006) tax approval regime relating to reduction of surpluses and which as at 6 April 2006 contained a power to repay surplus to the employer whilst the scheme was ongoing.  Exercise of the statutory power is by way of a trustee resolution.

Originally, the statutory power was drafted so as to expire on 6 April 2011.  However, because of concerns over the original drafting of section 251 (which could have been read as applying also to payments to employers which were not repayments of surplus from an ongoing scheme), the transitional period was extended with effect from 3 January 2012, and now expires on 6 April 2016.

Why schemes need to act now

The key point which trustees and employers need to note is that where section 251 applies, it imposes a blanket prohibition on making any payment of surplus to the employer except by virtue of a resolution under the transitional power.  

So in short, if a resolution is not passed before 6 April 2016, any existing power in a scheme’s rules to repay surplus to participating employers will be permanently lost; and given the particularly wide wording of the ban on payments which is contained in section 251, it is not certain that it would be possible to reintroduce such a power through a later scheme amendment.

In addition, the process for passing a resolution under the transitional power is not straightforward.  Trustees must give written notice (in a form which satisfies statutory requirements) to both the employer and scheme members to inform them that they intend to pass a resolution, and that notice must be given at least three months before the date from which the resolution is to take effect.  Since the statutory power can only be exercised once in the period between 3 January 2012 and 6 April 2016, it is vital to ensure that no mistakes are made in the process.

Trustees and employers therefore need to review their scheme documentation as a matter of some urgency to see whether a section 251 resolution needs to be passed, and also whether any previous attempt to exercise the statutory power (before 6 April 2011) was valid.

If no resolution has already been passed, consideration needs to be given to whether the trustees wish to retain the power, and if so, on what terms.  Section 251 allows the trustees free rein to determine appropriate terms, and as a minimum, it is likely to be the case that some updating to reflect the post-2006 tax regime will be appropriate.  

Checking the validity of a previous resolution

If a check reveals that a previous exercise of the statutory power was not carried out in accordance with the statutory requirements, it may be possible to salvage matters where the invalid resolution was passed before 6 April 2011. 

When the wording of section 251 was clarified and the transitional period was extended for a further 5 years, the Government appreciated that trustees might wish to revisit the question with the benefit of that clarification.  As a result, the revised section 251 allows all trustees to exercise the power once during the period from 3 January 2012 and before 6 April 2016, even if they have already passed a resolution before 6 April 2011.  So if a pre-April 2011 resolution is found to be defective in some way, there is still time to pass a fresh resolution to cure the problem.

Comment

Although scheme surpluses are currently few and far between, given the ongoing volatility in scheme funding levels, it is impossible to rule out the possibility that schemes which are now in deficit will return to surplus in future years.  In that event, failure to pass a section 251 resolution could have unforeseen consequences.  In addition, employers are generally wary of creating trapped surpluses, and therefore the removal of any power to repay surplus outside of a winding-up may make employers extra-cautious about funding targets.

Against that background, prudent trustees would be well-advised to double-check the position of their schemes, and to take action to consider and (if appropriate) pass a suitable resolution in good time before 6 April next year.