Top of the agenda
1. End of DB contracting-out – getting ready
In our July round-up (click here), we reported on the issuing of the Occupational Pension Schemes (Schemes that were Contracted-out) Regulations 2015.
The Regulations aimed to ensure that members' entitlements derived from contracted-out employment (such as in relation to GMPs) continue to be preserved when contracting-out ends on 6 April 2016 ("the abolition date")).
The government has now a discovered a procedural error in Regulation 28 of those Regulations (which deal with conversion of survivors' benefits) - this regulation should have been subject to the affirmative parliamentary procedure but was not.
Consequently, the Regulations are being revoked and recast as the Occupational Pension Schemes (Schemes that were Contracted-out) (No. 2) Regulations 2015 (the "Contracting Out (No. 2) Regulations") with the provisions in regulation 28 being excluded. The provisions of Regulation 28 will be reissued in a future set of regulations before the end of the year and will come into force on the abolition date.
The employer override
Key regulations have now been issued enabling employers to start planning for the end of contracting out.
In our March round-up (click here), we reported on regulations that give the employer an overriding power to recoup any increased National Insurance contribution liability arising when contracting ends by amending the scheme, without trustee approval, to:
- increase the employee’s existing contributions; and/or
- reduce scheme liabilities in respect of future benefit accrual.
An actuary must satisfy that the proposed amendments recoup no more than the increase in the employer's NIC liability as a result of contracting-out ending.
Employers wishing to recoup their additional NIC liability should consider using the employer's statutory override. The power can be exercised now although any changes introduced cannot take effect until the abolition date at the earliest.
Employers will have to consult with affected employees for a period of at least 60 days before any changes are made. Early action is therefore recommended to ensure changes are in place from the abolition date.
The effect of the Pensions Act 2014 and the Contracting Out (No. 2) Regulations is that most of the provisions relating to salary related contracted out schemes will be preserved post abolition with some minor changes, notably:
- The rules relating to revaluation and indexation of GMPs;
- The restrictions on changes to contracted-out schemes under section 37 of the Pension Schemes Act 1993
Schemes should consider amending their GMP model rules and the GMP provisions in their rules to reflect these changes.
Further changes to the rules may be required when the government issues further regulations in relation to the following:
- transfers of contracted-out benefits;
- the reference scheme test underpins in DC schemes;
- how trivial commutations/small pots should be calculated from GMPs.
For further advice, please speak to a member of the pensions team.
2. Scheme power to make a RPI/CPI switch: a cautionary tale
The High Court has held that the rules of the Barnardo’s Pension scheme did not allow the trustees to switch from RPI to CPI as the inflationary measure for increases to pensions in payment and revaluation of deferred members’ pensions.
In 2011, the Government switched the inflationary measure for statutory increases to pensions in payment and revaluation of deferred pensions (including members’ GMPs) from the Retail Prices Index (RPI) to the Consumer Prices Index (CPI).
Whether or not scheme trustees could switch to CPI as the inflationary measure for their schemes depends largely on the wording in scheme rules.
There have been a number of cases before the courts interpreting the effect of scheme rules in this context; some complaints to the Pensions Ombudsman have also been made.
RPI/CPI Court decisions
In Danks & Ors v Qinetiq Holdings Ltd & Anor  EWHC 570 (Ch), the Court interpreted the effect of a scheme rule that allowed the trustees to revalue or increase pensions in payment by reference to the “Index”.
Index was defined in the rules as “the Index of Retail Prices published by the Office of National Statistics or any other suitable cost-of-living index selected by the Trustees”. The Court held that this wording allowed the trustee to move to CPI as the inflationary index and doing so would not breach section 67 of the Pensions Act 1995.
In Arcadia v Arcadia Group Pensions Trusts Limited , the Court considered the meaning of scheme rules which provided for pension increases to be based on “the percentage increase in the Retail Prices Index”. ‘Retail Prices Index’ was defined as “the Government’s Index of Retail Prices or any similar index satisfactory for the purposes of HMRC.” The Court held that the phrase “or any similar index” allowed for an alternative index, such as CPI, to be selected. This was the case even if RPI still existed, or where RPI is discontinued as an official index.
There have been a number of (unsuccessful) challenges to the Pension Ombudsman from members claiming that they had a continuing right to RPI-based increases. For instance, in Clarke(82434/3), the Ombudsman held on the facts that:
- A member of the Armed Forces Pension Scheme did not have a contractual entitlement to an RPI pension increase.
- The switch from RPI to CPI by the Scheme did not disappoint members' expectations that their pension entitlements will retain their value over time. CPI is an alternative (rather than inferior) index by which to measure inflation, and is therefore an acceptable index to use to increase pensions and ensure their value will not diminish over time.
- Information in the Scheme booklets did not support the member’s assertion that CPI would always be used.
The Barnardo’s decision
The Barnardo’s scheme rules provided for revaluation and indexation of pensions by reference to:
“the General Index of Retail Prices published by the Department of Employment or any replacement adopted by the Trustees without prejudicing Approval. Where an amount is to be increased “in line with the Retail Prices Index” over a period, the increase as a percentage of the original amount will be equal to the percentage increase between the figures in the Retail Prices Index published immediately prior to the dates when the period began and ended, with an appropriate restatement of the later figure if the Retail Prices Index has been replaced or re-based during the period.”
The main issue before the court was whether the above rule allowed the Scheme trustee to select an index in place of the RPI. Warren J found that the Rules did not allow the trustees to switch to CPI for the following reasons:
- RPI was the only official index when the Scheme rules were adopted, it was unlikely the draftsman had considered alternative indices.
- If the draftsman had intended the Trustees to have a unilateral power to switch the index, this would expressly have been reflected in the drafting.
- The reference in the rules to RPI being “replaced or re-based” suggested official action was required to adopt a replacement and the RPI could only be re-based by the government or other such authority.
- For a new index to be used as a replacement by the Scheme, RPI would have to cease and a new index officially introduced – this wasn’t the case. (Even though the UK Statistics Authority has shed doubts as to whether RPI merits “continued designation as a national statistic” due to “methodological shortcomings” associated with the index, RPI remains an official inflationary Index. Government Index-linked gilts, in particular, remain linked to RPI).
Many scheme rules contain similar wording to that in the Barnardo’s scheme. The case highlights that the scheme rules must be examined carefully before any change to a scheme’s indexation and revaluation requirements is made and that whether or not scheme can switch from RPI to CPI will turn on the precise wording in the scheme rules.
Buckinghamshire and others v Barnardo’s and others  EWHC 2200 (Ch)
3. Scheme trustee cannot withhold transfer because the member has refused to sign a disclaimer
In Pollet (PO-3658), the Pensions Ombudsman has directed Optimum Capital Limited (“OCL”), the trustee of a money purchase occupational pension scheme, to compensate a member for any loss incurred as a result of the trustee’s failure to process the member’s request for a transfer.
The Rules of the Plan
Under the rules of the plan, a member had a “right to request” a transfer, which was to be made by a direct payment between “the trustees/scheme administrator”.
The Ombudsman interpreted the transfer rule as giving a member an automatic right to the transfer (as opposed to the trustee having a discretion). The transfer was mandatory on request providing the receiving scheme was a registered pension scheme.
The Ombudsman pointed out that the member also had a statutory right to a cash equivalent transfer under pensions legislation; under these provisions, a transfer request had to be met within 6 months of request.
Mr Pollet had requested a transfer of his benefits to a Legal & General self-invested personal pension plan (SIPP).
OCL refused to process the transfer for various reasons, including refusal by the member to sign a disclaimer. The disclaimer contained wording that the member would not take any action against OCL in connection with the transfer and that he would indemnify OCL for any costs, losses, penalties as a result of actioning the transfer. The member had already signed an earlier discharge form sent to him by OCL.
The Ombudsman held that OCL had “no right” to request a further disclaimer from the member excluding any further liability against OCL. This was “an attempt to settle any potential possible claims against” OCL for doing something OCL had no legal right to refuse”.
The Ombudsman held that one month from the date on which Legal & General had sent the completed discharge form to OCL would have been a reasonable time to disinvest Mr Pollet’s holdings in the Plan (which in this case was on or about 23 July 2013) and then to make the transfer.
The Ombudsman made the following orders against OCL:
- OCL to transfer Mr Pollet’s benefits to the Legal & General SIPP
- OCL to request Legal & General to confirm the number of accumulation shares in the SIPP that Mr Pollet’s transfer value would have bought him on 23 July. If this amount is greater than the accumulation shares purchased on transfer the difference should be paid into the Legal & General SIPP by way of compensation.
- Pay Mr Pollet £500 for distress and inconvenience caused.
The Ombudsman refused to award Mr Pollet any of his costs totalling £2,500 for appointing an IFA to handle his complaint, arguing that Mr Pollet could have gone to the Pensions Advisory Service to handle his complaint at no charge.
Where trustees of a pension scheme have complied with a member’s request under the statutory requirements for transfer, there is a statutory discharge available in favour of the trustees from any obligation to provide benefits to which the cash equivalent related. It is not uncommon for schemes to require further discharges/ disclaimers from members. In practice, whether or not members sign them depends on the precise terms contained in them. This determination emphasises that failure by a member to sign scheme discharges or disclaimers does not entitle the trustee to refuse to process the transfer.
4. Regulator issues its first ever section 89 report in relation to its scheme funding powers
The Pensions Regulator has issued a section 89 report in relation to the Docklands Light Railway Pension Scheme.
The scheme trustees had failed to meet the statutory deadlines for submitting actuarial valuations for both 2009 and 2012 primarily as they could not agree a funding strategy for the scheme with the scheme employers.
In August 2012, the Regulator issued a warning notice with a view to asking the Determinations Panel to require the trustees and statutory employer to obtain “skilled persons’ reports” on the Scheme’s funding position and the strength of employer covenant. These reports would then have enabled the Panel to make an informed decision as to how the Regulator should use its scheme funding powers under section 231 of the Act. These powers range from giving directions as to the calculation of the Scheme's technical provisions to imposing a schedule of contributions.
During its investigation, the Regulator had encouraged the trustees and DLR to use their powers under the Scheme’s contribution rule to secure funding for the Scheme. The Regulator and the parties did not have a common view on the scope of those powers.
The Trustees subsequently demanded contributions using their power to do so under the Scheme rules. They then issued court proceedings to enforce that demand. This suspended the Regulator’s actions, pending the outcome of the court proceedings.
The court proceedings were settled in November 2014 with an agreement between DLR in relation to the Scheme’s funding deficit under the 2012 actuarial valuation. The trustees then submitted compliant actuarial valuations for 2009 and 2012.
Under the settlement, the funding deficit of £36.1 million will be cleared by 2 January 2018. Serco agreed to pay a total of £33 million to the Scheme, with an additional £4 million coming from DLR. The settlement is front loaded, with over £20 million payable by 2 January 2016. Serco’s payments are underwritten by a parental guarantee from Serco Group Plc.
This is the first time the Pension Regulator has issued a report on the exercise of its powers in relation to scheme funding. The Regulator makes it clear in the report that it has a "low tolerance" for late actuarial valuations. However, it took some 3 years for the Regulator to issue a warning notice with a view to exercising its funding powers, the Regulator's initial approach (as is common in such cases) being to encourage further discussions between the trustees and the employer and to reach an agreement. The threat of the Regulator using its powers did encourage court action by the trustees and eventually the terms of the deficit recovery plan being agreed.
5. PPF issues consultation for the 2016/2017 Levy Year
The PPF issued its consultation for the 2016/2017 levy year. Broadly, the framework for the next year will remain the same, with a few notable changes to accounts data, insolvency scores and the convention on exchange rates. There are more substantive changes in relation to mortgages and contingent assets. The PPF is also looking for feedback on the impact of FRS 102.
The levy estimate for 2016/17 is £615 million, a 3% reduction on current levy year estimate, due largely due to the improvement in Experian scores for sponsoring employers and guarantors.. How this will impact on schemes individually will depend on the precise circumstances of the scheme and the insolvency risk scores of the employers.
Companies which voluntarily provide full accounts to Experian can have the data from full accounts for the previous year used - the company must provide accounts for the three years prior to those used by Experian to calculate their scorecard for the 2016/2017 levy year.
Mean insolvency scores will return to a 12 month average.
The PPF is considering whether to extend the credit rating exclusion to allow for private credit ratings (from S&P, Moody's or Fitch). It is also considering whether to alter the criteria for scheme averages.
Exchange rates for non-sterling accounts data
The PPF is proposing to change its convention on exchange rates. The new method would use the rate in force at the most recent accounts date. This methodology would also apply to trend variables.
Experian will continue to monitor the sponsoring employer/parent credit ratings. Refinance/Rent Deposit/Pension Scheme Mortgage exclusions will be automatically rolled forward.
Changes to the rules on Refinance Mortgages will allow the restatement or confirmation of an existing charge to be certified for exclusion.
The PPF are currently seeking views on:
- the existing definition of "Refinance Mortgage" and any difficulties in meeting it;
- broadening mortgage exclusions to cover charges over bank accounts (for example under a PFI contract) and whether these should be excluded for immateriality.
The guidance on contingent assets now includes key elements from the PPF guarantor strength factsheet published in January 2015. There is also a new section about annual recertification. A valuation is required, either a full one or an update to one used for the 2015/2016 Levy. The valuer can decide which one to use but must provide reasons for opting for an update. If the terms of the ABC have been changed or the trustees are aware of anything that might materially affect the basis of the original legal opinion, a new opinion must be taken.
FRS 102, which applies to accounting periods starting on or after 1 January 2015 could affect Experian scores, particularly where accounts are being compared on different bases. The PPF wants feedback from schemes on the impact on accounts that employers expect to see once FRS 102 applies, together with the effect on Experian scores. It anticipates FRS102 will affect some scores from 2017/2018, although the full year effect will only be seen in 2018/2019.
Last Man Standing (LMS) schemes
Schemes which have erroneously benefitted from a reduced levy in previous years but which are not, in fact, LMS schemes are likely to be re-invoiced in 2016 for those years. Schemes which have previously benefitted from large levy reductions could have to make substantial back payments.
Changes to deadlines
The PPF plans to move its standard deadline for submitting scheme data from 5pm to midnight on 31 March 2016. This will bring it into line with the deadline for submitting valuation data to the Pensions Regulator.
The consultation on the 2016/2017 levy closes on 22 October 2015.
The 2015/16 Levy year
Levy invoices for 2015/2016 have now started arriving and recipients only have 28 days from receipt to review their invoice and lodge an appeal. Most schemes should receive their invoice by 15 November 2015.