In the August 2014 edition of Pensions Priorities we mentioned certain measures that the Government is proposing in connection with the end of contracting out which is due to take place with effect from 6 April 2016.  As we explained in that article, employers with schemes that are currently contracted out will face an increase in their national insurance ('NI') bill from that time. However, the Pensions Act 2014 sets out a framework for certain measures which employers can implement to compensate themselves for that increase.  In May 2014, the Government also issued a consultation on this issue and this article looks at what is proposed and what affected employers may need to think about if they want to implement this.

What does the Pensions Act 2014 provide?

Under provisions already set out in the Pensions Act 2014 (but not yet in force) an employer will be able to unilaterally (i.e. without the consent of the trustees if this is usually required under the scheme's alteration power) amend its occupational pension scheme in relation to some or all of its members to take account of increases in the employer's national insurance contributions in respect of all or some of those members resulting from contracting out ceasing to be available.  In further detail:

  • The power may be used to increase employee contributions of the relevant members and/or to alter the future accrual of benefits in respect of them.  However it cannot be used in a way which would or might adversely affect the subsisting rights of those members (i.e. effectively their accrued rights and/or those of their survivors  
  • It can be used more than once in relation to the same members, be used before or after 6 April 2016 (though any amendments made under it must not be framed to take effect before that date) and will be repealed at the end of 5 years from 6 April 2016.  
  • The power is, however, subject to certain limits which broadly aim to ensure that the employer, in making these changes, is only compensated for the increase in the national insurance expense.  So, the power cannot be used in a way that would (amongst other things):  
    • Increase the total annual employee contributions of the relevant members by more than the annual increase in the employer's NI contributions in respect of them ('the NI Increase');  
    • Reduce the scheme's liabilities in respect of the benefits that accrue annually in relation to the relevant members by more than the NI Increase; or  
    • Result in the sum of the increase in employee contributions referred to in (i) and the reduction in the scheme's liabilities referred to in (ii) above being more than the NI Increase.

What is the consultation about?

The May consultation referred to above, issued along with draft regulations dealt with

  • How contracted-out benefits already accrued in pension schemes are to be treated.  The general approach proposed in this regard is that contracted out benefits should be subject to existing protections and conditions after contracting out ceases;
  • How the employer amendment power mentioned above is to operate in practice.

On the employer amendment power, the draft regulations propose (amongst other things) that:

  • the Actuary1 will have to certify that certain statutory requirements in relation to the exercise of the power have been satisfied.
  • the Actuary will have to perform certain calculations, as prescribed, for example, to determine the NI increase based on the methods set out in the regulations.  
  • The trustees or managers of the pension scheme will have to provide, in writing, any information requested by the employer in connection with the use of the power within four weeks of receipt of the employer's request;

There are also various provisions which deal with multi-employer sectionalised/non sectionalised schemes and where schemes have different rules for different members and how the amendment power will operate in relation to those schemes.

So what next?

The Government consultation referred to above closed on 2 July and we are awaiting a response. However, the DWP has said that it expects the regulations dealing with the statutory amendment power to come into force this autumn, so employers in relation to contracted out schemes may then wish to start considering whether or not they want to use it and when the appropriate steps need to be carried out to best facilitate this.

Is there anything else to think about

Currently, if an employer wishes to terminate the pension scheme's contracted out status it must consult with the affected employees before doing so. The Government has confirmed that this will not apply when contracting out will cease because it will be doing so as a result of statutory provisions. Presumably the current statutory requirements in this regard will be amended accordingly.

However, the type of changes facilitated by the proposed statutory power (to increase employee contributions and/or to reduce future accrual) are covered by regulations which require employers to consult with affected employees in relation to the proposed changes in certain circumstances. This issue (unless the law is amended otherwise) should not be overlooked in planning the timetable for implementing any use of the power, particularly because the consultation period in this regard is 60 days.