Upper accrual point/upper earnings limit

6 April 2009 will see the introduction of the new upper accrual point (UAP), by reference to which State Second Pension (S2P) accrual and National Insurance rebates will be set. This could have an impact on accrual under occupational pension schemes because, at the same time, the upper earnings limit (UEL) is being extended and will be higher than the UAP. For instance, if the scheme rules say that pensionable salary is capped at the same level as the UEL then that cap will be higher (in turn, increasing scheme benefits). On the other hand, where scheme benefits are reduced by reference to a S2P offset, if the offset calculation in the rules is based on the UEL then the amount of the offset will be greater than the actual amount of the S2P received (which will be based on the UAP), so leaving a gap (and, overall, lower benefits).

These are just two examples. Trustees and employers should check their scheme rules to see whether the introduction of the UAP and change to the UEL will have an impact on their scheme benefits.

Early retirement checks

Last December we sent an alert regarding a major High Court case on equalised benefits in pension schemes[1]. In a nutshell, the implications of the decision (which will be the subject of an appeal hearing) are that:

  • Barber rights[2] override scheme provisions that would require the member to obtain consent (usually from the employer) to retire early but
  • the scheme rules still apply in relation to any reduction.

In other words, a consent requirement in the scheme rules will not, of itself, control cost. If the rules provide for a reduction on early retirement then that reduction will apply, but if there is no provision for reduction then the member will be able to retire early taking their full pension unreduced.

The cost implications for schemes without reduction wording in their rules is likely to be significant. The ruling rejected an argument put forward in favour of schemes meeting their equalisation liabilities via split pensions. Split pensions would see the benefits accrued by reference to a normal retirement age of 60 being paid at (and reduced by reference to) that age and benefits accrued by reference to a normal retirement age of 65 being paid at (and reduced by reference to) that age.

The first thing that trustees and employers will need to do is to check the position under their scheme rules. If the outcome of that checking exercise is that the scheme faces a requirement to pay members their full pension early and unreduced, what courses of action might be available to such a scheme?

Trustees and employers may wish to hold off taking any action at this stage and that would be a reasonable approach to take, pending the outcome of the appeal (due to be heard later this year). Possible courses of action might include:

  • factoring the increased liabilities into the next valuation;
  • schemes between valuations considering whether to demand additional funding to cover this, or calling for an earlier valuation;
  • where clearance applications are contemplated, the additional equalisation liabilities could affect the level of mitigation trustees might be looking for;
  • amending the scheme rules to remove the unreduced benefit for future service accrual, notwithstanding the prospect of an appeal (although taking such a step may lead to negative publicity).

[1] Foster Wheeler Ltd v Hanley

[2] In broad terms, Barber rights refers to the right to take benefits at the earlier age (usually the normal retirement age for women, who have typically been allowed to retire before men), but only in respect of benefits earned during the period between 17 May 1990 (the date the Barber case was heard) and the date on which the scheme equalised benefits for male and female members. Schemes need to take care when working out the date on which benefits were equalised. Attempts to equalise continue to be the focus of court hearings (for instance, the recent High Court judgment ruling that one scheme's attempt to equalise using an announcement was ineffective: Capital Cranfield Trustees Ltd v (1) Beck (2) Tabor).

Pension Protection Fund (PPF) levy

At the start of the year we produced an alert which included a focus on the PPF levy certification deadlines coming up soon. For instance, schemes looking to certify or re-certify their contingent assets will need to make arrangements now, so that they meet the 31 March deadline.

It is often said that prevention is better than cure and the same is true of the PPF levy. If the levy is calculated in a way that you disagree with, the outcomes of past complaints suggest that your complaint is likely to fail. For instance, in a couple of recent PPF Ombudsman decisions:

  • The PPF Ombudsman rejected the argument that the levy should have been based on a section 179 valuation that was submitted late because there was no scheme actuary around the time of the deadline.
  • The PPF Ombudsman decided that the levy calculation rules did not require Dun and Bradstreet (D&B) to obtain accounts from a third party other than Companies House, so D&B did not have to take account of information published on the Charity Commission website.

Pressures on the economy may result in the PPF taking on more schemes than it had predicted. If that happens then the levy is likely to increase so it's all the more important for schemes to take whatever steps they can to reduce their levy burden (such as making sure that D&B failure scores are based on accurate information). Last year's Pensions Act contains provisions about interest being chargeable if levies are not paid on time so schemes will also need to bear this in mind. According to the National Association of Pension funds (NAPF), the PPF plans to issue a 'top ten tips' guide to keeping down the levy charge, together with an online tool to work out the impact of particular actions on the levy (such as investment strategy changes). The question then has to be, if schemes manage to reduce their levy payments how will the levy calculation change to ensure that the PPF collects enough?


Our alert 'A new year, some new deadlines' contained a reminder about the revaluation cap change. Legislation has now been made, confirming that the revaluation cap will be reduced from 5% to 2.5% for rights earned from 6 April 2009. Reducing the revaluation cap will bring it into line with the 2.5% cap for the indexation of pensions in payment, which has been available for accrual since 6 April 2005.

Trustees and employers will need to discuss whether their scheme should take advantage of the reduced cap. Having reached that decision, they will need to examine the scheme rules to establish whether any changes will be needed. For instance, if the rules refer to the cap set by legislation from time to time, the reduced cap would apply automatically if no action is taken. On the other hand, if the rules refer expressly to a 5% cap an amendment would be needed if the scheme wanted to adopt the reduced cap.

If your scheme contains restrictions that would prevent you taking the action that you would like to take, you may be able to use the new powers (currently set out in draft regulations) that the Government plans to introduce for rights earned on or after 6 April 2009. Put simply, the new powers will allow schemes to proceed as if the restrictions were not there.

The Pensions Regulator has recently published a reminder to employers of their duty to consult affected members before making certain kinds of future service changes listed in the legislation. We do not think that a change reducing the revaluation cap for a scheme would fall into one of the categories of listed changes that would trigger that duty to consult. However, some employers may feel that it would be appropriate to initiate some form of consultation with their membership.

Divorce simplification

A couple of changes are planned for 6 April 2009, with the aim of simplifying pension sharing on divorce. Schemes' administration teams will need to take these changes on board.

Pension credit benefit

The Department for Work and Pensions (DWP) has consulted on draft regulations which would allow pension credit members to decide when and how to draw pension in the same way as other occupational pension scheme members. At the moment, pension credit benefit can be paid before normal benefit age only in very limited circumstances in relation to occupational pension schemes, but those restrictions don't apply for personal pension schemes. If adopted, the regulations will allow pension credit benefit to be available from age 50 (or 55 from 2010) or where the pension credit member meets the ill health condition set out in the Finance Act 2004. Lump sums would also be available in the same circumstances as for other members.

From a member's perspective this might appear to be good news. However, it may be that some schemes will view these flexibilities as another reason to encourage benefits acquired through pension sharing to be transferred out.

Safeguarded rights abolition

Another, more significant, simplification was introduced in the Pensions Act 2008. From 6 April 2009, shared rights deriving from contracted-out rights (known as safeguarded rights) will be treated in the same way as other shared rights. The safeguarded rights legislation imposed restrictions on how those rights could be taken and added an unwelcome layer of complexity to pensions.

VAT case

In 2007, the European Court of Justice ruled that investment trust companies (ITCs) were not required to pay VAT on fees charged by third parties for managing the ITC's assets. Many believe that investment managers' services to occupational pension schemes should enjoy a similar exemption so the NAPF and Wheels (part of Ford) are bringing a case before the VAT and Duties Tribunal. This issue is relevant to pension funds with segregated investments managed by asset managers (since investment management via pooled funds or insurance wrappers is already exempt).

The NAPF have now issued an update on progress. Earlier this month the VAT Tribunal formally directed that the Wheels case should be heard first, so all other appeals will be stayed. Another directions hearing is expected in May. If the NAPF challenge succeeds then VAT recovery should be available. We have already said in our client alerts that, if applicable, schemes should consider making a protective claim with the VAT and Duties Tribunal as soon as possible because of the three year limitation on recovery.

Reclaiming tax from the Netherlands

UK pension funds which received dividends from Dutch companies on or before 31 December 2006 can now reclaim tax that was withheld on those dividends by the Netherlands tax authorities. It is expected that claims will be possible for tax withheld as far back as 2003.

To make sure that the reclaim isn't refused for being out of time, funds should submit the claim as soon as possible. Refund claims need to be made by submitting a form to the Dutch tax authority.


Pensions Act 2008

We have dealt elsewhere in this alert with the Pensions Act 2008 changes in relation to revaluation and safeguarded rights. Here are some other changes.

Personal accounts

We issued an alert last year about the implications of the Personal Accounts legislation for employers. The Personal Accounts Delivery Authority has now made it clear that automatic enrolment for personal accounts will take effect in October 2012. Much of the detail has yet to be finalised and will be the subject of further consultation.

Moral hazard

We also issued an alert on the changes to the Pensions Regulator's moral hazard powers, introduced under last year's Pensions Act. The Government has since issued a consultation paper on the draft code of practice which will identify those circumstances in which the Regulator would expect to issue a contribution notice (CN) where the new 'material detriment' test applies. The material detriment test will apply retrospectively from 14 April 2008 but will not be brought into force until the code of practice comes into force (the closing date for the consultation was 6 February and the code will have to be laid before Parliament for at least 40 days at some point after that).

The circumstances for issuing a CN under the material detriment test which are listed under this consultation are the same as those originally put forward last year. Unfortunately, the broad wording used in some of the circumstances listed means that it is still unclear how the Regulator is likely to apply those circumstances in practice.

Other extensions of the Pensions Regulator's powers

The changes to the Pensions Regulator's moral hazard powers contained in last year's Pensions Act received much press attention. However, there are a couple of other extensions to its powers which are important too:

The Regulator will be able to appoint trustees where "necessary". The power will be available to "protect the interests of the generality of the members of the scheme", in addition to the existing, alternative, circumstances that must apply for the appointment power to be available. This power has not yet been brought into force.

If the actuarial assumptions used in a scheme funding valuation do not appear to have been chosen prudently then the Regulator is now able to use certain of its key powers to intervene (for example, it can issue directions or impose a schedule of contributions).

The Pensions Regulator is steadily acquiring more muscle. In addition to the above two extensions, there are draft regulations under which civil penalties will apply if employers fail to consult members about key future service changes. At the moment, it seems likely that this trend will continue, although we think that the Regulator still will prefer to use this to influence behaviour, rather than put its powers into operation. We have also seen evidence suggesting that the Regulator will be mindful of the difficulties facing employers in the current climate.

Levy interest payments

The Act also contains provisions about interest, to be charged when levies are not paid on time. The levies covered by this are the general levy, the PPF levy, the PPF administration levy, the fraud compensation levy and the PPF Ombudsman levy. The Pensions Regulator will be responsible for collecting the interest and regulations will deal with situations where interest will be waived (for example, incorrect billing). Schemes' levy payment procedures will need to take this on board.

Pensions Regulator publications

The Pensions Regulator has been busy issuing yet more guidance along with other statements.


The Regulator has finalised its record-keeping guidance for trust-based and contract-based schemes. The guidance lists scheme change events where a review of record-keeping is either urgent (wind-ups, buy outs, etc) or convenient (eg, mergers, valuations etc).

Scheme governance is clearly moving up the Regulator's agenda. The Regulator wants to assess during 2009 whether its focus on education will be enough to improve schemes' approach to this, or whether it will need to use an enforcement approach instead.

Conflicts guidance

The Regulator also finalised its conflicts of interest guidance. We issued an alert about this at the time. Trustees will be looking to ensure that they either have a conflicts policy put in place or that any existing policy is in line with the Regulator's expectations. The Regulator has said that it intends to intervene where it feels that a conflict has not been managed appropriately. With conflicts in the spotlight, boards are placing increasing focus on how to deal with confidential information. One way of addressing this would be through the use of confidentiality agreements, which the Regulator acknowledges could play a role in facilitating the sharing of confidential and sensitive information.

Reminder: employer's duty to consult

Just before Christmas, the Pensions Regulator published a reminder to employers about their duty to consult affected members before making certain future service changes listed in the legislation. There have also been draft regulations, which will introduce civil penalties for employers who fail to comply with their consultation duties, plus an informal consultation.

Statement to trustees on current market conditions

The current economic turmoil has led the Regulator to sound a conciliatory tone in certain contexts. For instance, the moral hazard changes require the Regulator to consider before issuing a contribution notice the effect of an act or failure to act on other creditors and the likelihood of their being paid.

In the same vein, the Regulator issued a statement about scheme funding in current market conditions. The conclusion was that the scheme funding regime was still "fit for purpose" and the funding triggers "are expected to remain unchanged". Interestingly, the statement also says that trustees thinking about any proposal to change an existing recovery plan should take into account (among other things) plans for payments to other creditors and dividends to shareholders. Although the Regulator is looking for higher technical provisions it also appears to be making more allowance for recovery plans to be back-end loaded or to run for longer periods.

For members with money purchase pension arrangements, the statement simply says that they should keep an eye on things - especially in relation to the open market option and lifestyling.

Mortality and funding

Some time ago, the Pensions Regulator announced that it would tighten up its requirements in respect of mortality assumptions used in scheme valuations. Since then, it has published good practice guidance and confirmed that, in relation to valuation cycles starting from September 2008, mortality assumptions will be considered only after an existing trigger has brought the recovery plan to its attention.

The Regulator's guidance on mortality assumptions is another example of its recognition of the world's economic difficulties, with the focus on "payments that are reasonably affordable" and assurances that a range of different approaches can be acceptable. This relatively flexible and practical approach by the Regulator is encouraging but mortality is still an issue for schemes. Overall, the Regulator has indicated that it expects mortality assumptions to toughen and this fits in with its new power to intervene where actuarial assumptions in scheme funding valuations do not appear to have been chosen prudently.

Tax developments

In addition to the actions that we recommend in relation to reclaiming tax from the Netherlands and VAT on fees charged by third parties, here are some other tax developments that are worth noting.

Frozen allowanes...

The lifetime allowance (LTA) and annual allowance will be frozen for five years (between 2010/11 and 2015/16) on reaching £1.8 million and £255,000, respectively. The Pre-Budget Report Note on this (PBRN14) says that any other limits set by reference to the LTA will also be set by reference to the frozen level (for example, the trivial commutation limit of 1% of LTA).

...but less restrictions...

Amending regulations[3] ease tax regime rules in two respects: (1) bridging pensions in payment before 3 July 2007 can be reduced in line with the scheme rules as they were before 6 April 2006 (the A-Day tax regime allows for smaller reductions than was previously the case), without being treated as unauthorised payments; and (2) the removal of the requirement for relevant benefit accrual to have taken place when a member transfers pension rights to another scheme and that member wants transitional protection for their pension commencement lump sum (to allow an extra tax-free lump sum where the member's rights increase at a faster rate than the increase in the lifetime allowance).

In a separate development, our extensive correspondence with HM Revenue & Customs (HMRC) has led to draft regulations[4] which will prevent pensions reduced as a result of underfunding in the course of a scheme wind-up becoming unauthorised payments simply because the current exemption (which requires all the pensions to be reduced at the same rate) doesn't apply. Reductions made since A-Day will be covered, although the scheme must have at least 20 members when the wind-up starts.

[3] Taxation of Pension Schemes (Transitional Provisions) (Amendment) Order 2008 (SI 2008/2990)

[4] Pension Schemes (Reduction in Pension Rates) (Amendment) Regulations 2009

...and a clarification

HMRC has confirmed that where scheme administrators act in accordance with draft regulations[5] under which certain currently unauthorised payments will be treated as authorised, then HMRC will not impose penalties for failing to operate in accordance with the existing legislation.

[5] Registered Pension Schemes (Authorised Payments) Regulations 2008


Financial Assistance Scheme/Pension Protection Fund

Regulations[6] have been made closing a loophole which had meant that where the employer became insolvent before 6 April 2005 but the scheme didn't start to wind-up until after 5 April 2005, there was no protection available (whether under the FAS or under the PPF). The change made by these regulations means that a scheme will qualify for the FAS where the insolvency event happened before 6 April 2005 and the scheme wind up started in the period between 6 April 2005 and 22 December 2008 (as one would expect, there is also some wording to prevent such a scheme from qualifying for both lifeboats).

[6] Financial Assistance Scheme (Amendment) Regulations 2008 (SI 2008/3069)

Watching: Consultations

Recent consultations can be split into two main types: those that look at enabling schemes to be run more flexibly and those that are likely to lead to a different sort of impact.


Guaranteed Minimum Pension (GMP) conversion

Contracting-out has been the source of many restrictions which schemes have had to grapple with. The Government wants to ease matters but, as is ever the case with contracting-out, the proposals are not straightforward. The DWP consulted on draft regulations dealing with the conversion of GMPs and has now published a response. The ability to convert is expected to come into force "in April or May 2009". Trustees will play a central role.

We think that few schemes will be taking up this option (at least at this stage) chiefly because equalisation is acknowledged as an issue but the implications are avoided. Nonetheless, the key points are:

  • Trustees will have to decide whether or not to convert some or all liabilities but they must get the employer's consent and must take all reasonable steps to consult with earners first (there is a suggestion that it may be helpful for the consultation to include an estimate of the converted benefits for each member)
  • Trustees must tell HMRC and affected members/survivors about the conversion
  • Trustees must also work out whether the post-conversion benefits will be actuarially equivalent and set the assumptions, after obtaining advice from the actuary (a similar approach to the recent changes regarding cash equivalent transfer values). The actuary will have to calculate the actuarial value of benefits before and after conversion and must then send the trustees a certificate saying that the benefits before and after conversion (on an individual level) are actuarially at least equivalent
  • Once a scheme decides to convert, there are restrictions on what can be done with the converted benefits:
    • Survivors' benefits will have to be provided in the same way as they were in respect of GMPs
    • GMPs cannot be converted into money purchase benefits and pensions in payment cannot be reduced
    • There are special provisions regarding transfers out  
  • Schemes will be able to modify by resolution in order to convert GMPs
  • Schemes being wound up will be able to adjust benefits to reflect what would have happened had the scheme converted its GMPs
  • The Pensions Regulator will enforce all this.

The Government's response, rather optimistically, says that converting GMPs will offer employers certainty over future GMP liabilities, but until equalisation is addressed properly it's difficult to see how that can be the case.

Consultation on flexible retirement

After a long period of silence on flexible retirement the ball appears to be rolling again. The DWP has issued a consultation paper about flexible retirement. The consultation puts forward two options:

  1. schemes would be able to stop providing: further accrual (lower accrual is not on offer, although the Government wants views on this)/an actuarial uplift/death in service benefits/ill-health benefits; or, if option 1 is not introduced, then option
  2. would allow schemes to say that they are not providing death in service benefits, so survivors would be treated as survivors of a pensioner (the Government wants to know whether ill-health benefits should also come within this exemption).

These alternative exemptions would kick in only at men's State pension age (or normal pension age, if higher) and where there is a 'flexible retirement arrangement', regardless of whether or not the member chose to take all or part of his benefits. A 'flexible retirement arrangement' is an arrangement where the employee's hours or grade have been reduced (although the Government wants to know whether the exemptions should cover people whose hours/grade haven't reduced) after becoming eligible to receive all or part of his age related benefits under the scheme. People already in flexible retirement arrangements would not fall within the exemptions.

It is not clear how the first option and the personal accounts legislation (which would allow employees up to age 75 to require re-enrolment) would work in practice. The Government says that, for option 1 to comply with the Directive, it needs robust evidence of the fact that the law as it currently stands is a genuine barrier to employers offering flexible retirement arrangements.

Other consultations

PPF levy (for 2011/12 onwards) consultation

The PPF has issued a consultation on changing the way its levy is calculated for 2011/12 onwards. In the PPF's view, the proposals will make the calculation fairer and less volatile.

The two key proposals are that (1) the probability of the employer going bust should be assessed over a five-year period (in addition to the current requirement for that to be assessed over a one-year period); and (2) the risks posed by the scheme's investment strategy should be assessed.

There are no plans to change the overall amount to be collected but the PPF is thinking about reducing the scheme-based part of the levy for each scheme from 20% to 10%, perhaps when the PPF recovers its deficit.

Contingent assets will still be recognised but the plan is for the adjustment to be made to asset values (the current adjustment relates to liability figures). If the contingent asset is of a type that won't fluctuate in value then it will be added to the scheme's assets after they have been adjusted for investment risk. If the market value of the contingent asset could fluctuate, however, then it will be added to the scheme's assets before they are adjusted for investment risk, so the contingent asset itself will affect the level of investment risk. The PPF says that it plans to treat type A contingent assets and deficit reduction contributions in broadly the same way as at present.

Will an assessment of the risks posed by the scheme's investment strategy change the way some schemes invest? The PPF thinks that this is likely to result in a drop of only 1.2% in equity allocation; others are less sure. Will the different treatment of contingent assets (depending on whether or not their value is capable of fluctuation) have an effect on the nature of contingent assets chosen? What's the likely cost impact? On the one hand, the consultation says that half of schemes will have to pay more, one in six will pay up to 25% more and one in ten will see their levy bill double in size; on the other hand, half of schemes will pay less, a quarter of schemes will pay up to 25% less, and one in ten will pay half their current levy bill. The proposals have already been criticised by some for penalising stronger sponsors (the levy increase will be highest - in amount, as opposed to as a percentage of liabilities - for schemes funded over 110% with credit ratings ranging from Baa to Aa). Another criticism is that the proposals are overly simplistic (in the short term at least, the investment risk will be measured purely on the data available from scheme returns, so complex investment risk management strategies won't be taken into account). Watch this space!

Informal consultation on section 75

The DWP has issued an informal consultation on the employer debt legislation set out in section 75 of the Pensions Act 1995. The deregulatory review published in 2007 identified concerns about the way in which a debt is triggered by group reconstructions, even where the employer covenant remains strong afterwards.

In the context of a strong employer covenant before and after the restructuring the Government is putting forward four options:

  1. Scheme apportionment as the default, where the apportionment funding test is met (including an employer covenant assessment of the newly enlarged company – into which the smaller company has merged - measured before and after the restructuring). Under this option, the trustees would be obliged to go ahead with the apportionment either to the newly enlarged company, or to the other group employers if they agree to take on the debt.
  2. The employer debt is triggered only if the debt would be of an amount above x% of the scheme liabilities (an approach taken in the US, where the threshold is set at 3% - the UK Government even identifies 30% as a more helpful threshold).
  3. Setting the debt for smaller employers at the scheme funding level or at the level of rights that would be protected by the Pension Protection Fund.
  4. Do nothing...

The Government says that it will consult formally and more widely "in due course" on any proposals that come out of this informal consultation, so the four options are not likely to be the only ones that end up on the table for discussion.

If the impact of any changes is that companies can reorganise without fear of a s75 debt, so long as the trustees are satisfied that the employer covenant wouldn't be worsened (in fact in some cases a reorganisation can strengthen the employer covenant), then this would appear to be a pragmatic approach to take, particularly in the current economic climate.

Trustee Knowledge and Understanding (TKU) code and scope guidance consultation

The Regulator has consulted on proposed changes to the TKU code and scope guidance, to reflect its concerns about scheme wind-ups, buy-ins/outs, administration, the employer covenant and personal accounts. TKU will continue to apply to each individual (and not to the board as a whole, as recommended in the 2007 deregulatory review). Trustees who have already completed the toolkit e-learning programme will not be required to undertake that again. The consultation also proposes new guidance for fully insured small DC schemes (with 12-99 members).

TKU is a key component of scheme governance and, as such, is moving up the Regulator's agenda. The NAPF have been working on a trustee self-assessment toolkit, focusing on trustees' progress on the TKU front. It seems sensible that, as the law, regulatory requirements and products on offer in the pensions world develop, so too should the Regulator's TKU expectations.