The High Court has today handed down a much-anticipated decision, Prudential Staff Pensions Limited v The Prudential Assurance Company Limited. The case considered important issues in relation to an employer's duties to pension scheme members. It did so in the context of an increasingly fraught area: changes to the basis of discretionary pension increases.

The background

Under the Prudential Staff Pension Scheme ("the Scheme"), pensions were reviewed annually. The Scheme rules provided the trustees could pay "such additional benefits under the Scheme... as the Employer shall determine subject to any condition or qualifications which the Employer may require."

For a period of fifteen years, the employer used this rule to make discretionary pension increases, over and above those required by statute, that were broadly in line with increases in the retail prices index ("RPI"). However, in 2006 the employer revised its policy. The starting point for its new approach was to award increases that were still based on RPI, but capped at 2.5% (reflecting the statutory minimum introduced for pension increases for post-6 April 2005 service).

Following representations by members, the trustees of the Scheme decided to apply to the High Court to clarify the extent of the employer's powers in this area.

The key question for the court was whether the change in the employer’s policy could be regarded as a breach of its implied obligation to employees (including retired employees) of mutual trust and confidence (also known as its duty of good faith).

In addition, the trustees sought answers as to whether it was appropriate for the policy also to apply to pension increases where pensions were derived from the payment of additional voluntary contributions, past transfers into the Scheme and other additional benefits which the employer had asked the trustees to provide.

The decision

Mr Justice Newey held that the employer had not breached its duty of good faith in revising its policy on discretionary increases, and that the change was valid. He emphasised that the employer's duty of good faith in a pensions context was not a fiduciary duty, such as that owed by trustees to members. The employer was entitled to take account of its own interests: breach of the duty required conduct of "some seriousness" and the test was "a severe one".

The judge acknowledged that members had "very strong" expectations that discretionary increases would continue at a higher rate, but the existence of those expectations did not mean there was any breach of duty by the employer when it changed those rates. He also commented that the employer was not obliged to engage in genuine negotiation with the trustees before making its decision.

In relation to the additional questions about specific benefits, the judge said that he did not consider that it was irrational or perverse of the employer to have treated pensions derived from AVCs, transfers-in or augmentations any differently from all other pensions under the Scheme. To do so was not a breach of the duty of good faith.

The judgment also considered, and rejected, alternative arguments that had been made on behalf of beneficiaries that, on the facts of the case, the members as a whole could be entitled to higher discretionary pension increases under the legal principle of estoppel, or as a result of application of the so-called "Hastings-Bass" principle.

What are the implications of the case ?

The case is clearly relevant to schemes with an established practice of regularly awarding discretionary pension increases, particularly where the continuation of such a practice is being reviewed. It provides some comfort to employers that a "discretion" to increase benefits is just that, and that past practice cannot of itself create an entitlement. However, the facts of the case amply illustrate the tension between the significant potential cost savings to an employer, and the emotive nature of the issue for the pensioners involved.

The analysis of employers' duties of good faith to scheme members will also be relevant to wider issues of the role of the employer in relation to occupational pension schemes, and the way that they manage what is now widely perceived to be the "decline" of defined benefit provision.

A copy of the judgment can be found here.