[2007] EWHC 2900 (Ch)

Summary

A mistake in the scheme’s rules permitted deferred members to take an unreduced early retirement pension from age 60. The scheme’s normal retirement age was 65. The equivalent rule for active members taking early retirement from age 60 required an actuarial reduction to reflect early payment. The Court declined to correct the mistake.

Introduction

Smithson v Hamilton (Smithson) concerns the situation in which a drafting mistake in a scheme’s deed and rules comes to the attention of the employer and trustees who then seek the help of the court to correct the rule. The High Court decision in Smithson , by adopting a strict approach and refusing to correct the mistake, may make it harder in future for employers and trustees to correct such errors in pension scheme documentation. This ruling is in contrast to earlier decisions which adopted a more liberal approach and which permitted corrections on the grounds of either mistake by the trustees (following the rule in Hastings-Bass) or mistake by the company (following the rule in Gibbons v Mitchell).

Background facts

The scheme in question was established in 1990 by an interim deed. The definitive deed and rules were subsequently drafted and executed in 1992 by the employer company and the trustees of the scheme. The definitive deed and rules provided that the normal retirement age for both male and female members was age 65. Early retirement provisions allowed active members to take their pension from age 60 without the employer’s consent but with actuarial reduction to reflect the early payment of benefits. However, deferred members were permitted to take their pension early without actuarial reduction. This inconsistency was only noticed in 1999. The participating companies and trustees (the Claimants) consequently sought to set aside the incorrectly-drafted rule on the basis of either mistake by the trustees, following the rule in Hastings-Bass, or mistake by the company, following the rule in Gibbons v Mitchell.

Hastings-Bass principle

Previous cases have shown that the courts are willing to set aside trustees’ actions, which confer an unintended benefit, where it can be shown that the trustees had failed to take into account relevant considerations or had taken into account irrelevant considerations in arriving at their decision. The Claimants’ case was that the trustees’ decision should be set aside because they had failed to consider the true effect of the rule as drafted, the discrepancy between the retirement positions of deferred and active members and the increased cost of funding of the scheme which the wrongly-drafted rule would have for the employer. However, the judge rejected the application of the Hastings-Bass rule and refused to declare the provision void on three main grounds:

Rectification by the back door

The judge felt that the appropriate remedy here would have been rectification. He noted that the Claimants had not applied for such an order, possibly because they had been advised that it was unlikely that an application would have succeeded in the light of a previous decision in Lansing Linde Ltd v Alber. In Lansing , the employer had been required to prove that the company and trustees had intended and resolved to amend the scheme rules and that, by mistake, the amending deed failed to give effect to that continuing common intention.

If the Hastings-Bass rule was applied in Smithson , the result would be to set aside the defective rule in its entirety, thus removing the right of deferred members to early retirement. The Claimants sought to navigate this obstacle by giving an undertaking that if the defective rule was set aside, they would insert a new amended rule. However, the judge found that this would amount to “rectification by the back door” which he considered unacceptable. He distinguished the earlier case of Gallaher Ltd v Gallaher Pensions Ltd, observing that the court there had granted the remedy of rectification and had also held that the undertaking given by the employers and trustees removed any objection to the application of the Hastings-Bass rule but only on the basis of lapse of time.

Adoption of definitive deed and rules was essentially the act of the employer

The judge held that since the Hastings-Bass rule applies only to the acts of trustees, it did not apply on the facts of Smithson as here it was the employer company who was principally responsible for the formulation and making of the definitive deed and rules. He found that the trustees were not involved in instructing the professional advisers or in considering preliminary drafts of the definitive deed and rules. In his opinion, the business reality was that the employer company progressed towards preparing the definitive deed and rules in the period after the execution of the interim deed, despite the fact that the trustees had undertaken in the interim deed to execute a definitive deed and rules. It was unacceptable to extend the application of the Hastings-Bass rule to set the defective rule aside simply because the trustees had joined the employer company in executing the definitive deed and rules.

Trustees’ fiduciary duties were not such as to cause the Hastings-Bass rule to apply

The judge accepted that the trustees had fiduciary duties in connection with the making of the definitive deed and rules but they did not cause the Hastings-Bass rule to apply. The trustees’ responsibilities were owed primarily to the members of the scheme and not to the employer. It was not their job to ensure that the definitive deed and rules were drafted in accordance with the employer company’s wishes and they could reasonably assume that the employer company could look after its own interests particularly since it had taken professional advice. It would be unreasonable and over-exigent to require the trustees to have identified the error and to have taken it into account.

Gibbons v Mitchell principle

Where there has been a voluntary transaction by which one party confers a benefit on another, the court may grant equitable relief and set aside the transaction if it is satisfied that the provider of the benefit did not intend the transaction to have the effect it did. The Claimants pleaded that the employer company did not intend the defective rule to have the effect which its terms created but intended the scheme’s deferred members be treated no more favourably than its active members. The judge decided that as the scheme was established pursuant to contracts of employment, the creation of trust was a contractual matter as it was part of the commercial relationship between the employer and employees. As such, the contract could only be set aside where the effect of the mistake was to make the contract essentially different from what it was believed to be as was held in Bell v Lever Brothers. On the facts, the characteristics of the scheme were not so altered as to satisfy this test - it was merely more expensive for the employer to fund the scheme’s benefits. Therefore, he did not accept equitable relief for mistake was applicable on the facts.

Impact of decision and future developments

The decision in Smithson potentially makes it harder for employers and trustees to correct drafting mistakes in scheme documentation. However, it is a first instance decision and permission to appeal has been granted, so there remains a possibility that subsequent decisions could adopt a more liberal approach.

The decision may also affect the duties of trustees in relation to scheme design, particularly since the judge was firmly of the opinion that the definitive deed and rules was the employer’s document and it was the business reality that the employer was the driving force behind the formulation and drafting of the documents. This could mean that trustees in similar circumstances have a reduced responsibility to the employer in relation to drafting pension scheme documentation and suggests that trustees’ primary responsibilities are to scheme members.