A round up of pensions developments

Top of the Agenda

Auto-enrolment – devil in the "eye-wateringly complex" detail

Last year, we looked at steps employers can take to comply with the auto-enrolment regime and identified some problem areas arising out of the legislation as it was drafted at that time - click here to view those briefings.  This month, we pick up on some of those problem areas and how the DWP and the Pensions Regulator have tried to address them.

Salary sacrifice and HMRC rules

There were concerns that salary sacrifice and the auto-enrolment regime were not compatible.  In particular, HMRC rules had the effect that employees who terminate their salary sacrifice arrangements and revert to their higher salary could lose all tax and national insurance benefits unless the termination took place on a permitted date.  This meant that employees automatically enrolled into a salary sacrifice arrangement who invoked the statutory right to opt-out within a month could fall foul of the HMRC rules if their opt-out period did not coincide with HMRC's permitted dates.  HMRC has now resolved this problem by amending its guidance, effectively allowing employees to opt-out of a salary sacrifice arrangement at any time.

Overseas workers

Under the auto-enrolment regime, broadly an eligible job holder, someone who "ordinarily works" under a worker's contract in Great Britain who is aged at least 22 and has earnings of more than £7,475 (soon to be changed to £8,105) has to be automatically enrolled into a qualifying pension scheme.

This means that many "dual-status" employees i.e. those who spend part of the time working or living overseas will also need to be automatically enrolled.  Where this is the case, under the regime the scheme would have to satisfy not only the requirements of the auto-enrolment legislation but also, under the IORPS Directive 2003/41/EC, the legal and regulatory requirements of the country in which the job holder is working.

In practice, it will, be very difficult for UK schemes to satisfy the requirements of another country in the EEA.  To address the problem, the Government has introduced regulations (Regulations) which came into effect on 2 July 2012 which exempt employers from having to auto-enrol workers who spend part of the time working in an EEA state.  Under the regulations, an employer would have to actively identify such jobholders and exclude them from auto-enrolment.

Although the exemption is to be welcomed, it does not extend to employees working outside the EEA nor to workers from outside the EEA working in the UK.  (For more details about the problems in relation to these categories of employees, see our earlier briefings).

The legislation is also not clear as to what is meant by the term "ordinarily works".  The Pensions Regulator has recently addressed the issue in its guidance which, broadly, states that the primary issue to consider is where the worker is based, as determined by the terms of his contract of employment and how the contract is operated in practice.  Factors which should be taken into account when considering this are where the worker begins or ends work, the location of the worker's private residence and company headquarters, the currency in which the worker is paid and whether the worker has paid national insurance contributions in the UK.  As a result of the consultation on the Regulations further issues were raised about what is meant by a worker ordinarily working in Great Britain - the DWP has said that it has conveyed these additional points to the Regulator so that it can make further changes to its guidance.

Auto-enrolling all employees

Eligible job holders have to be automatically enrolled subject to their right to opt out.  However, under the regime, there are categories of employees whom the employer has no obligation to auto-enrol but who have a right to opt in.  If they do opt in, they are entitled to employer contributions in the scheme in the same way as eligible job holders.  There are also employees that don't fall within either of these categories.  Faced with the costs and administrative burden of having to distinguish between these various categories of employees for pension purposes, some employers are chosing to auto-enrol everyone.  There are, however, problems with this approach – in particular, different communication requirements may apply for the different categories.  The statutory right to opt out and refund any employee contributions paid into the auto-enrolment scheme during the time the employee was opted in are only available to eligible job holders.  Employers must therefore factor in the potential down-sides and consider ways of getting round these issues when considering whether to auto-enrol everyone. 

Comment

We are currently advising clients on complying with the auto-enrolment rules, which the National Association of Pension Funds is recently reported to have said are "eye-wateringly complex".  For further information about auto-enrolment compliance, please speak to your usual contact in the pensions team.  

Cases

Lehman Brothers saga continues - Upper Tribunal holds it can direct the Pensions Regulator to issue FSDs against other Lehman Brothers subsidiaries

A recent Upper Tribunal hearing could mean that 38 subsidiaries in the Lehman Brothers Group which the Determinations Panel of the Pensions Regulator had decided not to issue a financial support direction (FSD) to could now find themselves within the scope of an FSD. The interlocutory hearing at the Upper Tribunal also confirmed that the trustees were in this case an "interested party" and were therefore able to make the reference to the Tribunal. For our earlier e-alert on the decision, click here.  

High Court grants rectification by way of a summary judgment

In Industrial Acoustics Ltd v Crowhurst (unreported), the High Court granted summary judgment in a claim for rectification of the rules of the Industrial Acoustics Company Limited Retirement Benefit Scheme.

Industrial Acoustics Limited (IAC), principal employer to the Scheme, and the Scheme trustees had, following the Barber decision, sought to equalise the Scheme's normal retirement dates for men and women which at the time stood at 65 for men and 60 for women. They did so by passing resolutions in 1992 and 1995 to effect equalisation and the Scheme was administered on that basis. 

However, a new set of rules were introduced in 1998 (which had been drafted in 1992) which had the effect of reversing the equalising measures introduced by the 1995 resolution.

IAC applied to the Court to rectify the 1998 rules so that equalisation introduced by the 1995 resolution would once again be effected, seeking rectification by way of a summary judgment on the basis that there was no realistic prospect of the Scheme members establishing a defence to the rectification claim.

The Court applied the four tier test for rectification from Daventry DC v Daventry and District Housing Ltd [2010] EWHC 1935 (Ch) and found that (1) it was clear that the trustees and the company had a continuing common intention at all times from 1995 that the equalisation measures should continue to apply; (2) this common intention was present at the time the 1998 rules were executed; (3) an objective observer would have no doubt that the common intention was for the Scheme to have been equalised in accordance with the earlier resolutions passed, notwithstanding the mistake made in the 1998 rules; and (4) rectification in this case was both warranted and justified.

The Court also held that while it was preferable to notify members where possible of the claim, it was not necessary to do so in this case.  This was because a representative beneficiary (to represent the interests of the Scheme's members) had been appointed as one of the respondents in this application and who'd had access to all the relevant materials and expert legal advice; in light of this, it could not be said that another member of the scheme would have come up with an argument that had not already been raised. The application for summary judgment had not been opposed by the representative beneficiary (or any of the other respondents either).

Comment

The Court's willingness to grant rectification by way of summary judgment, saving the costs of a full rectification claim, will be welcomed by employers and trustees.  The Court has recently granted rectification by way of summary judgment in another case: Pioneer GB Ltd v Webb and others (2011) – for our briefing on that case, click here.  

High Court holds that transferred-in employees' benefits could not be changed detrimentally under the Energy Act provisions

In Urenco UK Limited v Urenco UK Pension Trustee Company Limited and Others [2012] EWHC 1495, the High Court has held that the pension protection provisions contained in the Energy Act 2004 prevented the transferee employer from making certain amendments to transferee employees' pension arrangements following a transfer.

The principal employer of the Urenco pension scheme, Urenco UK Limited, had received employees under a TUPE transfer from Sellafield Limited. The transferred-in employees had been members of the Combined Pension Scheme (a statutory scheme set up for employees in the nuclear industry). The Energy Act 2004 contains pension protection measures for employees who are transferred to a private or public sector body, requiring that the benefits available for transferred-in employees in the new scheme must be no less favourable than the benefits provided under the nuclear pension scheme. The protection also applies on any subsequent transfer of those employees.

One year after the transfer, Urenco proposed cost saving measure for the scheme, following a scheme valuation which showed that the scheme had a substantial deficit – these measures were to increase member contributions from 7.5% to 9.5% and to decrease the cap on increases to pensions in payment – the measures were intended for all members of the scheme including the transferred-in employees. The Court held that the proposed amendments (including the increase in member contributions) were not permissible in relation to the transferring employees as they would amount to a detrimental variation of the transferred in members' future service benefits (the level of member contributions to be regarded as members' 'benefits' for this purpose).  The proposals would therefore be in breach of the Energy Act provisions and the terms of business transfer agreement.

Comment

Although clearly directly relevant to transfers of employees in the nuclear industry, the judgment is also relevant to transfers in other industry sectors, such as rail and electricity as transfers in those industries are governed by similar pension protection provisions as the nuclear industry.  

Discretionary powers should be exercised by reference to the circumstances that exist at the time that the decision is made, not the circumstances that exist when the decision should have been made

In Entrust Pension Ltd v Prospect Hospice Limited and ors [2012] EWHC 1666 (Ch), the High Court held that a category of deferred members in the scheme did not have a right to have their pension increased out of a surplus in the scheme. The case concerned the interpretation of the rules of the "Federated Flexiplan", an industry wide scheme in the healthcare sector. The scheme rules provided that members' pensions could be increased if the scheme trustees decided to allocate any scheme surplus to members. In light of a rising deficit in the scheme's funding, the trustees decided to stop providing additional benefits based on scheme surpluses to all members. This was challenged by members; the issue affected in a "particularly acute form" those who left service when the scheme was in surplus, who argued that they should have been allocated the discretionary amount of surplus that was available on the date that they left service.

Background

The Flexiplan is unusual in that it is neither a DB nor a DC scheme in the conventional sense.  It provides a member with an entitlement on retirement to a cash sum which comprises the contributions paid by the member and the employer on the member's behalf, plus a guaranteed rate of interest on those contributions – the judge called this the "Accrued Amount". Under the rules, the Accrued Amount could be further augmented by the scheme trustees adding to it an amount representing a share of any surplus in the scheme.

The scheme was administered from the outset as a DB scheme but there was no general covenant from the employers to pay the balance of cost of the liabilities to the extent that the liabilities exceeded the assets.  This wasn’t a problem until March 2002 because the Scheme was in surplus, but from 2002 the funding deficit increased.  In 2007, a recovery plan was put into place to address the increasing deficit and the trustees decided to cease offering additional benefit provision based on scheme surpluses, which in turn raised questions about whether members had an entitlement to a share of surplus, and how and when it should be calculated.

Decision

Henderson J held that:

• The power to augment member benefits with scheme surpluses was discretionary, regardless of the fact that in practice the scheme had offered augmented benefits for nearly 40 years – continuity of past practice "cannot make any difference to the basic nature of the entitlement".
• On the correct construction of the scheme rules, the trustees of the scheme had a duty to consider whether a discretionary amount should have been offered to deferred members at the date that they left service, rather than the date that they retired.
• The requirement for trustees to consider exercising the discretionary right had not lapsed, even though it should have been exercised earlier.
• Exercise of the right should be based on the circumstances that exist at the time, rather than at the time that the initial requirement to consider exercising the right arose. This effectively meant that although deferred members would probably have received the discretionary amount when they ceased service had the trustees exercised their duty to consider allocation of surplus at that time, the deferred members were no longer entitled to an increase as the scheme was now in deficit. 

High Court decides to grant petition to wind-up Olympic Airlines even though the company had gone into liquidation in Greece

In the Trustees of the Olympic Airlines SA Pension and Life Assurance Scheme v Olympic Airlines SA [2012] EWHC 1413 (Ch), the High Court has decided to grant a petition by the trustees of the Olympic Airlines FA Pension and Life Assurance Scheme to wind up Olympic Airlines SA, a company incorporated in Greece, even though the company was already being liquidated in Greece.   Under the Pensions Act 2004, foreign liquidation proceedings do not count as a "qualifying insolvency event" for the purposes of entry to the Pension Protection Fund and the purpose, therefore, for the trustees in petitioning for a winding up order in England was to enable the Scheme to be assumed by the Pension Protection Fund.

The parties accepted that there was jurisdiction for the Court to wind-up the company under the Insolvency Act 1986.  However,  the trustees' petition was opposed by Olympian Airlines on the grounds that it was already being liquidated in Greece and, in these circumstances, the European  Counsel  Regulation 1346/2000 limited the winding-up of the company  in any other member state  to circumstances where the company had an "establishment" in that member state.

The Court held that the requirements of an "establishment" in the UK were satisfied by the Company in these circumstances as the Company remained in possession of its London office and had retained the services of two employees in the UK.  The Court would therefore grant the "compulsory order in the usual way".

Contractual interpretation has its limits; Court of Appeal reaffirms that sometimes rectification is the only way to give effect to the parties' intentions

In Cherry Tree Investments Ltd v Landmain Ltd  [2012] EWCA Civ 736, the majority of the Court of Appeal held that the interpretation of a public document (in this case a registered charge held by the Land Registry) was unaffected by a private document made between the chargor and chargee because "matters which the parties chose to keep private should not influence the parts of the bargain that they chose to make public". The majority suggested that, rather than alter the interpretation of the public document by applying the principles of contractual interpretation, an action for rectification may have been successful.  The decision demonstrates the limits to the courts' ability to correct a document using only the principles of contractual interpretation, and especially documents intended to be a conclusive and complete public record. Although this case dealt specifically with the interpretation of a registered charge over land, the principles will be relevant to the interpretation and rectification of pension scheme documents as well.  

Pensions  Ombudsman's Determinations

Pensions Ombudsman upholds member's complaint for an ill-health pension even though the complaint was made outside the 3 year time limit

In Cooper (82234/2), the Pensions Ombudsman has upheld the complaint of a member who was continually refused an ill-health pension by her employer under the Local Government Pension Scheme (LGPS).  The Ombudsman held that the employer had continually applied incorrect criteria when refusing her application, condemning the employer's behaviour as a "sorry tale of repeated maladministration by a public body".

Facts

Mrs Cooper was employed by West Yorkshire Police as a traffic warden and was a member of the LGPS. She had applied unsuccessfully for ill-heath retirement prior to her resignation in 2005. After retirement, she applied for early payment of her deferred benefits on the grounds of ill-health.  West Yorkshire Police refused her application, incorrectly applying the criteria under the LGPS for ill-health early retirement and relying on an old medical certificate that did not satisfy the scheme's criteria. Despite further applications in 2007 and 2011, and the intervention of Bradford Council (as the reviewing body of the West Yorkshire Police under the internal dispute resolution procedure), which informed West Yorkshire Police of the correct criteria to be used, West Yorkshire police repeatedly applied incorrect criteria and incorrectly represented the content of medical certificates when refusing Mrs Cooper an ill-health pension.  Mrs Cooper was eventually granted an ill-heath pension, but only from the date of her final application in 2011. She complained to the Pensions Ombudsman, arguing that her benefits should be backdated to the date of her initial application in 2006, and that she should get compensation for the distress and inconvenience that she had suffered.

Decision

The Pensions Ombudsman upheld the complaint, ordering that Mrs Cooper's deferred benefits be backdated to 2006, and that £600 be paid to her as compensation for distress and inconvenience.  Although Mrs Cooper was outside the three year time limit that applies for bringing a complaint to the Pension Ombudsman, the Pensions Ombudsman was happy to extend the time limit on the grounds that Mrs Cooper has been engaged in a "continuous quest" to obtain her ill-heath pension rights. Bearing in mind Bradford Council's direction of the correct criteria to use, the Pensions Ombudsman considered that West Yorkshire Police must either have been negligent, or had decided from the start that it would not pay Mrs Cooper an ill-heath pension. As, in the Pension Ombudsman's opinion, it was more than likely that her initial application would have been successful had the correct criteria been applied, her benefits could be backdated to this date.

Comment

The Pensions Ombudsman has discretion to handle a complaint out of time if he considers that it was reasonable that a complaint was not made within the three year limit.  On the facts, it is unsurprising that the Ombudsman was willing to extend the time limit as Mrs Cooper had been pursuing her cause through the internal dispute resolution procedure for over five years.

Member not entitled to pension increases under a receiving scheme following a bulk transfer where those increases were promised but not actually given by the transferring scheme

In Muir (83154/1), the Pensions Ombudsman did not uphold the member's complaint that his pension had been incorrectly calculated.

Mr Muir, an employee of Forte plc, had been a member of the Forte plc pension scheme. In June 1995, Forte wrote to him that a top up arrangement would also be provided for him to provide pension and death-in-service benefits as his salary exceeded the HMRC earnings cap at the time; the top-up benefits would be provided directly to him from Forte plc and not through the Forte pension scheme.

In 1996, Mr Muir was informed in a letter from his employer of the deferred pension he would receive when he left service and that the amount quoted included an amount in respect of his "12 months' unworked notice".  The Forte scheme was later merged with another scheme, the Granada scheme, and an announcement was made by the Granada scheme that deferred pensions would be increased by 6% from March that year. The Granada scheme was later transferred into the Compass scheme, and Mr Muir wrote to the trustee of the Compass scheme asking about the 6% increases. A deferred pension statement was given to him, showing that the increases had not been applied.  Mr Muir queried this a little later and the Compass scheme administrator, incorrectly, issued a new statement confirming that the 6% increase would be applied.

Mr Muir's pension scheme was put into payment when he retired in September 2009 and the amount he received did not include an amount in respect of the 6% increase or any service credit for the 12 months' unworked notice.  Mr Muir complained that his pension should have included an amount in respect of these elements and if HMRC limits prevented so, an equivalent amount should have been paid to him in some other way.

The Pensions Ombudsman found that the Granada scheme had not augmented Mr Muir's deferred pension by the agreed 6% and the most probable reason for doing so were the HMRC limits.  The trustees of the Compass scheme therefore had no obligation to pay an augmentation that was promised but not provided by the Granada scheme.  The Ombudsman did not uphold Mr Muir's complaint.

The Compass scheme trustees had made a settlement offer to Mr Muir that reflected his "revised period of service" (presumably taking into account the 12 months' unworked notice) to the extent that HMRC limits allowed as well as £500 for inconvenience and distress, which during the process of the investigation by the Ombudsman of the complaint, Mr Muir had said he would accept.  The Ombudsman stated that he expected the parties to settle the matter on this basis.  

The Pensions Regulator

Regulated Apportionment Agreement agreed with the Regulator for the British Midland Airways Pension Scheme

The Pensions Regulator has recently published its report in relation to its approval of a Regulated Apportionment Arrangement (RAA) in relation to the British Midlands Airways Limited Pension and Life Assurance Scheme (BMAL Pension Scheme).  RAAs are one of the means by which the liability for an employer debt arising when an employer withdraws from a defined benefit scheme may be apportioned to other employers participating in the scheme.  They may be available to employers if certain statutory conditions are satisfied and, in practice, are rare.

Background to the deal

Deutsche Lufthansa AG became a 100% shareholder of the BMI Group of companies in November 2009. The group was operating at a substantial loss.  Throughout Lufthansa's period of ownership of the group, Lufthansa supported the group and contributed over £1 billion to the BMAL Pension Scheme, even though Lufthansa did not participate in the scheme.  Later, Lufthansa concluded that it could no longer support the BMI Group, and, if a buyer could not be found, the BMI group would become insolvent.

In December 2011, the International Airlines Group (IAG), the parent company of British Airways, expressed an interest in buying the BMI group, provided that the Group could be purchased free from its pension liabilities.

Initial proposal put to the Regulator

The initial sale proposal put to the Regulator for clearance was that a shell company within the Lufthansa group would substitute BMAL as the principal employer of the BMAL pension scheme. On the sale of the BMI Group to IAG, BMAL's employer debt would be apportioned to the shell company via a scheme apportionment arrangement or flexible apportionment arrangement. The trustees also reached an agreement with Lufthansa that it would fund the scheme – the funding proposal included a 25 year recovery plan to address the substantial deficit in the scheme (approximately £450m on a buy-out basis).  However, the recovery plan was contingent on significant improvements in investment performance to reduce the funding deficit. In light of this, Lufthansa also gave a non-binding undertaking that it would consider "in good faith" any reasonable request from the scheme trustees for additional funding. The Pensions Regulator refused to grant clearance, taking issue mainly with the funding proposals for the scheme.

Proposal approved by the Regulator

Following further negotiations with the Regulator, an alternative arrangement (involving an RAA) was approved by the Regulator to enable the sale of the BMI group to IAG.  Under the terms of the deal reached:

• The scheme would enter a PPF assessment period.
• The scheme (and therefore the PPF) would receive £16 million from Lufthansa, which was significantly more than it would have received if BMAL had entered insolvency.

Lufthansa also agreed to make an additional payment of £84 million to the scheme's deferred members to compensate them for receiving reduced benefits under the PPF. We understand that the payment was made to a part of the BMAL Pension Scheme that was not tipped into the PPF. Although the TPR was aware of this voluntary payment, it did not take it into account when deciding whether to approve the terms of the RAA.

The Regulator issued a clearance statement to the revised proposal and determined to approve the RAA on 20 March 2012.  

Tax

Draft guidance issued on new tax regime for asset-backed funding arrangements

Draft guidance has been published on the proposed new tax regime for taxation of asset-backed funding arrangements.  The proposed changes (set out in the Finance Bill 2012) have been introduced in tranches (with detailed transitional rules applying).  The first raft of changes were proposed in November last year (see our e-alert here), a second lot followed in February 2012 (see our e-alert here).  Further changes were made in March 2012  (see our March e-bulletin here).  There was a further tidying up of transitional arrangements in May (see our May e-bulletin here).   The guidance will be expanded in July 2012 to cover the transitional provisions relating to pre-29 November 2011 ABF arrangements and finalised once the Finance Bill 2012 has been enacted.

Pension schemes Newsletter 54 published

HMRC has issued Pension Schemes Newsletter 54. The letter includes:

• Update on applications that have been made for fixed protection - the deadline for putting in applications for fixed protection was 5 April 2012.
• News on Q&A's on Qualifying Recognised Overseas Pension Schemes - the Q&A' s will be updated in July 2012.
• Reminder to those with enhanced and fixed protection that they can lose the protection if they are auto-enrolled into a pension scheme, and their right to opt-out of the arrangement to prevent this from happening.
• Update on HMRC's proposal to revamp the Registered Pension Schemes Manual.

Newsletter 54 can be found here.  

Round-up

Code of practice published that is likely to signal the end of employers offering cash incentives to members to transfer their benefits out of the scheme or to change the nature of their benefits

An industry working group has drawn up a code of conduct to combat the problem of defined benefit scheme members being tempted to transfer their benefits out of the scheme or to change the nature of their benefits in return for incentives (especially cash) that represent poor value for the rights that they have given up.

The Code contains seven principles that apply to incentive exercises, which include the following:

• Cash incentives should not be offered to members if they are contingent on the member's decision to accept the offer.
• Communications with members should be fair, clear, unbiased and straightforward.
• Where an enhanced transfer value exercise is being proposed (i.e. where members are offered an enhanced transfer value to encourage them to transfer their benefits out of the scheme) independent financial advice must be provided to the member by a suitable advisor.  The advice must recommend whether or not the member should accept the offer.
• For benefit modification exercises (such as giving up non-statutory pension increases in exchange for a higher flat rate pension), advice could be provided to the members as above or, alternatively, a value requirement should be complied with coupled with guidance provided to the members. To meet the value requirement, a balanced deal calculation must be undertaken based on the framework for actuarial equivalence tests under section 67 of the Pensions Act 1995 (broadly showing that the value of the old and the new benefits is at least the same for most members to whom the offer is made).
• Members should be given enough time to consider an offer – at least three months from receiving final information about the incentive exercise and two weeks from receiving final advice or guidance.

As the Code is voluntary, it will not be considered by a Court. However, the Pensions Ombudsman and the Financial Ombudsman Service may consider the Code when dealing with complaints about incentive exercise.  The Code will apply to any incentive offers proposed from the date of its publication (8 June 2012). A formal body has been set up to monitor compliance with the Code and to update the Code where necessary.   The Government has said that if the Code does not provide the desired results in combatting the problem of unfair incentive exercises, legislative provisions will be introduced.

Comment

The Code will almost certainly result in an end to cash incentive exercises where a cash offer is made conditional on the member accepting the offer.  Other forms of incentive exercises may also become less common as compliance with the requirements of the Code (such as the 'balanced deal' calculation requirement) may render them unattractive for employers.

White paper on banking reform proposes that banks "separate" their pension funds but this is likely to be difficult to do in practice

The Government has published its white paper – "Banking reform: delivering stability and supporting a sustainable economy".   The main proposal of the white paper is the ring-fencing of vital banking services.  For our firm's briefing on the white paper, click here.

Dovetailing the main proposals are proposals that banks should "separate, using commercial means the pension fund for employees of a ring-fenced bank from the pension funds of other group entities to ensure that the ring-fenced bank cannot be made jointly and severally liable for any pension deficit arising elsewhere in the group".  The Paper recognises that trustees of pension schemes may require higher contributions from the bank when asked to agree to a split of pension liabilities if they are concerned that the split will impact on the bank's ability to fund the existing pension scheme and/or the resulting pension schemes.  The Government is therefore proposing that banks be given until 2025 to implement the split.  Responses to the white paper are sought by 6 September 2012.

Draft legislation on the reforms is scheduled for this autumn and all legislation is intended to be in place in 2015.

Comment

There are a number of ways to achieve the separation of pension schemes but some banks will find certain solutions more difficult than others and most will have to seek the agreement of their trustees.  One way for instance, would be a scheme demerger but this is only really feasible if corporate entities within the banks are wholly separated.  It also carries the risk of triggering an employer debt, which clearly the banks would wish to avoid doing.  For banks who cannot or do not want to go down the route of full separation and prefer ring-fencing within entities, overriding pensions law (i.e. in relation to the employer debt and the Pensions Regulator's anti-avoidance powers) could make ring fencing difficult.  Another way of dealing with the issue might be an inter-creditor agreement between employers and trustees but tax law, notably the restrictions on payments to employers, makes inter-creditor agreements difficult to operate in practice.

The white paper proposes that it will be left to the banks to split their pension arrangements and that no amendment to pension legislation will be made.  However, it may be difficult for banks to make the split envisaged by the paper, unless the proposals are backed by proposals to change pensions legislation.

Congress likely to give US companies more leeway in accounting for DB scheme liabilities in light of current economic conditions

We understand that the US Congress may be close to approving legislation that will effectively allow employers of defined benefit schemes in the US that have large pension scheme deficits (mostly industrial groups such as steelmakers) to put a lower value on their scheme liabilities.  The measures, in turn, should result in more taxable income for employers and generate more tax revenue for the US Government.  As in the UK where yields from index-linked gilts are at an all-time low, bond yields in the US have fallen steeply.  Bond yields are used to discount the present value of future pension liabilities.  The measures currently being considered by Congress would allow US companies to use an average discount rate based on the past 25 years rather than one based on the past two years; this should result in lower estimation of scheme liabilities and therefore lower funding required from employers of DB arrangements.

Comment

The proposals being considered by Congress are in stark contrast to the Pensions Regulator's approach as set out in its recent statement on scheme funding.  The Pensions Regulator had in its statement warned schemes against using artificial assumptions in their technical provisions; in particular the Regulator warned schemes against making allowances for anticipated improvement in current economic circumstances, in particular increasing discount rates in valuations based on gilt yields reverting to previous levels.  Its view is that it would not be prudent to try and second guess market movements by assuming gilt yields will inevitably improve in the near-term (although the Regulator has allowed any such assumptions to be accommodated in a scheme recovery plan where later they can be more clearly identified and mitigated if the assumptions turns out to be wrong).  See our April e-bulletin for more detail on the Regulators funding statement.