The Situation: The Pension Schemes Act 2021 introduces two criminal offences and financial penalties applicable in the context of UK defined benefit pension schemes where persons whose intentional or reckless conduct prejudices members' benefits. The new provisions are wide in scope and became law on 1 October 2021.
The Result: Any person (apart from insolvency practitioners in accordance with their functions) involved in a restructuring, including lenders, financial sponsors, and professional advisers, could commit one of the new offences unless that person has a "reasonable excuse" (undefined in the legislation) for their action or course of conduct.
Looking Ahead: These new measures may lead to greater caution around restructurings on the part of sponsoring employers (and their stakeholders), resulting in higher levels of corporate failures.
In recent years, the UK Government's approach to insolvency and restructuring has been to promote a stronger rescue culture whereby companies have a better opportunity of being restructured and rescued on a going-concern basis. Most notably, the Corporate Insolvency & Governance Act 2020, which came into force in June 2020, has the stated objective of ensuring that businesses can maximise their chances of survival. At the same time, a number of high-profile corporate failures, including BHS and Carillion, resulted in many companies having significant pension scheme deficits, the costs of which are ultimately picked up by the UK taxpayers.
In response, the UK Government has introduced new criminal offences and financial penalties where a defined benefit pension scheme has been prejudiced. As discussed below, these new measures could undermine the very rescue culture the UK Government has been seeking to promote. The new provisions became law on 1 October 2021.
The two criminal offences apply only in the context of defined benefit pension schemes, but may apply to any person involved with the activity in question (other than insolvency practitioners acting in accordance with their functions). In summary, they are:
- Conduct risking accrued scheme benefits: An offence is committed where a person engages in an act or a course of conduct that detrimentally affects in a material way the likelihood of accrued scheme benefits being received, and the person knew (or ought to have known) that the act or course of conduct would have that effect; and
- Avoidance of employer debt: An offence is committed where a person intentionally engages in an act or a course of conduct which: (i) prevents the recovery of the whole or any part of an employer's section 75 debt (being the debt that becomes due from the employer to the trustees of an underfunded defined benefit pension scheme in specified circumstances under section 75 of the Pensions Act 1995); (ii) prevents such a debt becoming due; (iii) compromises or otherwise settles such a debt; or (iv) reduces the amount of such a debt which would otherwise become due.
An offence does not occur in either case where the person had a "reasonable excuse" for the particular action or course of conduct, but there is no definition of "reasonable excuse" in the legislation. In September 2021, the Pensions Regulator ("Regulator") published its policy ("Policy") on the use of its new powers following completion of a consultation procedure. In its Policy, the Regulator states that there are three factors which it considers will be significant in determining whether a reasonable excuse exists:
- The extent to which the detrimental impact on the scheme/scheme benefits was an incidental consequence of the act or omission, as opposed to a fundamentally necessary step to achieve the person's purpose. The more incidental the detriment was to the person's purpose, the more that purpose would tend towards establishing a reasonable excuse;
- The adequacy of any mitigation provided to offset the detrimental impact. The more the detrimental impact has been mitigated, the more likely the person is to have a reasonable excuse. When considering the adequacy of mitigation, the Regulator expects the scheme to be treated fairly in relation to other stakeholders in the employer, taking account of their relative financial interests; and
- Where no, or inadequate, mitigation was provided, whether there was a viable alternative which would have avoided or reduced the detrimental impact. If there was a viable alternative with a less detrimental impact, that would suggest an absence of reasonable excuse. However, the Regulator will not generally expect someone to pursue an alternative that means unreasonably disregarding their interests.
In the Policy, the Regulator sets out a number of examples and a detailed case study in which it expresses its views on the presence of these factors. In line with Parliament's intention for the legislation, it appears that the Regulator intends to use its new powers to address the more serious intentional or reckless conduct only. However, the Policy merely constitutes the views of the Regulator and is not legally binding. Such guidance also does not represent the views of the Secretary of State or the Director of Public Prosecutions, who also have the power to instigate proceedings, although the guidance is likely to be persuasive. Ultimately, it will be for the courts to determine.
Given the wide scope of the legislation, in the context of a restructuring, any person involved in the restructuring (such as lenders, financial sponsors and professional advisers) could commit an offence. As mentioned above, there is an express carve-out for any insolvency practitioner acting in accordance with their functions. All parties to the transaction (not just the employer and its associated or connected parties) will have to carefully consider whether it poses a risk to accrued scheme benefits, or whether it prevents the section 75 debt becoming due or reduces that debt, and what may constitute a "reasonable excuse" in light of the alternatives available to the restructuring. Upon any subsequent failure of the business resulting in a loss to the pension scheme, it is likely that the restructuring will be scrutinised by comparison to the likely outcome under the alternative scenarios.
A person found guilty of either offence may be liable for an unlimited fine and/or up to seven years' imprisonment.
The Pension Schemes Act 2021 also gives the Regulator new powers to impose a penalty of up to £1 million on any person who was party to an act (or deliberate failure to act) which resulted in either criminal offence, but not if that person has been convicted of that offence or criminal proceedings have been instigated but have not yet concluded. Notably, the civil penalty extends to any person who "knowingly assists" in the act (or failure to act). Where a body corporate is involved, if the act in question was done with the consent or connivance of a director, manager, secretary, or other similar officer, the Regulator may impose the penalty on that person instead of the body corporate.
The introduction of criminal sanctions and substantial financial penalties, which may be imposed upon not only the parties directly involved in a restructuring transaction, but also those who "knowingly assist", is likely to weigh heavily on the minds of parties seeking to restructure and rescue companies with defined benefit pension schemes. The protection afforded to insolvency practitioners is of limited practical benefit given the wide scope of other persons involved in a transaction who could be at risk of sanction.
Whilst the new regime will undoubtedly encourage more parties to seek clearance from the Regulator in advance of any proposed restructuring (notwithstanding the fact that the clearance procedure does not extend to the new offences), in many distressed situations, the pressure to act quickly in order to provide a business with just a chance of survival could mean that stakeholders do not have sufficient time to engage and agree to terms with pension trustees and the Regulator. This, combined with the risk of criminal sanction and/or substantial penalties, may lead to greater caution on the part of sponsoring employers (and their stakeholders) and result in higher levels of corporate failures, to the detriment of all stakeholders.
Three Key Takeaways
- The UK Government has introduced criminal offences and financial penalties applicable in the context of defined benefit pension schemes where persons whose intentional or reckless conduct prejudices members' benefits.
- The provisions are wide in scope, and any person involved in a restructuring (other than insolvency practitioners acting in accordance with their functions) could fall foul of them unless they have a "reasonable excuse" (undefined in the legislation) for their action or course of conduct.
- All parties to a transaction involving a defined benefit pension scheme will have to carefully consider whether the transaction poses a risk to accrued scheme benefits, or whether it prevents the section 75 debt becoming due or reduces that debt, and what may constitute a "reasonable excuse" in light of the alternative actions or courses of conduct available.