On 10 September the Pensions Regulator published a consultation document which contains revised guidance on its clearance procedure. The consultation period closes on 2 November.
The clearance procedure was introduced to enable the Regulator to give advance reassurance to companies that certain forms of corporate activity, known as "type A events" (including certain mergers, acquisitions and returns of capital) would not give rise to the imposition of the Regulator's "moral hazard" sanctions (namely, a contribution notice or a financial support direction).
Details of the Regulator's moral hazard powers and an outline of the current clearance regime can be found in our earlier bulletin, please click here.
The revised guidance: key points
- Clearance remains an entirely voluntary procedure.
- The prescriptive tests for what constitutes type A events have been replaced by a broader definition: type A events are "all events that are materially detrimental to the ability of the scheme to meet its pension liabilities." The onus is on trustees and employers to interpret this test in the context of corporate actions.
- Trustees are encouraged to seek mitigation (for example, extra funding or security for the scheme) on the occurrence of a type A event, regardless of whether the parties seek clearance.
- Typically, clearance is only a relevant consideration where the scheme is in deficit on the "relevant basis". Usually, this will be the highest of the FRS 17/IAS 19 basis, the scheme-specific funding basis or the Pension Protection Fund basis (that is, the valuation basis for the purpose of levy calculation). However, where there is a significant weakening of the employer covenant (for example, on a highly leveraged transaction), a higher basis (and, therefore, higher levels of mitigation) may be appropriate.
- Trustees are encouraged to routinely monitor the strength of the employer covenant; and integral to this is an understanding of the employer's financial position. The guidance encourages trustees to analyse the financial strength of the employer and the wider employer group, and contains lists of factors for trustees to consider.
The removal of the materiality thresholds and specific categories which formed part of the tests for type A events could cause some uncertainty for employers and trustees. However, it can also be seen as a reflection of existing practice, in light of the statement in the existing guidance that the spirit of the guidance should be observed, notwithstanding the existence of the detailed tests in that document.
The guidance does not address the fundamental issue with the previous guidance that the Regulator's sanction making powers do not well match its desire to protect employer covenant strength. For some time, it has been trustee powers and the need to discuss transactions with trustees that has been the real driving force when considering corporate action, rather than the demands of the Pensions Regulator. Perhaps reflecting this practice, the new guidance gives rather more detail on the actions which trustees should take than it gives on the way in which the Regulator will exercise its own powers.
One adverse implication of the guidance is that trustees might be encouraged to seek mitigation, almost as a matter of routine, in response to type A events. This may not be appropriate in every case, where, for example, a satisfactory funding plan is already in place.
The revised guidance contains considerable detail as to how trustees might monitor the employer covenant. It is worth noting that the level of information which the Regulator believes trustees should seek is much greater than that which would be applicable to an unsecured creditor of the employer.
The reaffirmation that IAS19/scheme funding basis remains the appropriate basis against which to assess the covenant in most cases is welcome.
For a copy of the guidance please click here.