The general election produced a hung Parliament, with the prospect of politicians having to work together despite contrasting policies. Pensions, too, can be described as an arena of contrasting approaches to the challenges faced.
In the last few months, the Pensions Regulator has, by turns, shown its willingness to demonstrate greater toughness alongside its desire to be a more helpful regulator.The Department for Work and Pensions (DWP) has engaged in efforts to take further (albeit limited) steps on the road to simplification, while simultaneously adding another layer to the already complicated debt on employer laws and telling schemes to do the impossible (also known as Guaranteed Minimum Pension (GMP) equalisation). Much work continues to be done on National Employment Savings Trust (NEST) (the new name for personal accounts) and in relation to the Pension Protection Fund (PPF). Meanwhile, HM Revenue and Customs has been juggling tidying up various bits and pieces with the rather more complex developments concerning the rise in normal minimum pension age as well as the tax relief restrictions for high earners. In addition to all this, pensions case law has been grappling with some big questions. Does the pensions landscape look more stable than Parliament?
A tougher Regulator or a more helpful Regulator?
Every regulator has a difficult balancing act to perform: keeping matters in order by showing a willingness to enforce its powers, while playing a role in the development of the sphere that they regulate by being helpful towards those looking for guidance. The last few months have given several examples of the Pensions Regulator playing both of these roles.
Enhanced transfer exercises have been one area of focus for the Regulator, who recently told trustees to start from the presumption that such exercises were not in member interests and even went so far as to comment: "If a company is willing to encourage the transfer, the company's gain is likely to be the member's loss." This is quite a swing from the tone of its 2007 guidance. The Regulator said that, starting from this presumption, trustees may decide to refuse to release data as a release would "enable such an exercise to be run without their scrutiny". In fairness to the Regulator, its comments were made in the context of becoming aware of behaviour below the "gold standard" (such as employers suggesting that there's insufficient money to go round so members feel that they must rush into an enhanced transfer to take advantage of the offer). We think the context is important but the Regulator's statements remind companies that they must behave responsibly and honestly and in accordance with high standards.
Other examples of a tougher Regulator include:
- a consultation paper on toughening up its approach to poor record-keeping, with the emphasis firmly on enforcement, rather than education - the Information Commissioner's Office can now impose fines of £500,000 so data protection is a hot topic in any event
- an increasing preoccupation with governance in general, particularly in relation to defined contribution schemes (driven in large part by the forthcoming introduction of NEST - please see below); for more information on this please see our alert Spotlight on governance - challenges ahead
- a consultation proposing that certain requirements relating to the Regulator's independent trustee register be tightened up
- an updated code on trustee knowledge and understanding, requiring trustees to read all of the scheme's trust documentation thoroughly
- clarifying that employers are required to consult affected members where the proposal is to alter the definition of pensionable earnings
- deciding to appeal US and Canadian court decisions in connection with the Regulator's intention to issue a financial support direction in respect of certain group companies based overseas.
Recent instances of the Regulator helping out those seeking more guidance include:
- its intention to work with other industry bodies (such as the NAPF and CBI) to help clarify the position for employers who are anxious about what they can and can't do and say to promote their pension scheme
- a consultation about revising the internal controls guidance so that it's more helpful for smaller schemes and gives more examples of what would count as good practice.
The DWP: one ear covered, the other one open?
The DWP's approach in recent months has certainly been a story of contrasts. On the one hand, it has listened to concerns about what would have been an unworkable overarching principle regarding disclosure obligations in general (it has backed down from the original suggestion that members should have enough information to make decisions in their own best interests).
It has also continued with its quest to simplify contracting out by announcing that protected rights will be abolished on 6 April 2012. This follows the abolition of safeguarded rights, which formed part of the pension sharing on divorce laws, along with the introduction of legislation enabling the conversion of guaranteed minimum pensions (GMPs) into scheme benefits.
The DWP has also been keen (via the Investment Governance Group, which it jointly sponsors with the Treasury) to encourage defined contribution schemes to engage more with their membership. For more on this, please see our alert Defined Contribution - focus on investment governance.
While the DWP has introduced some easements designed to prevent a section 75 Pensions Act 1995 debt arising in the context of corporate restructurings, the instances in which the easements would be available are rather limited and raise the question: will the easements be used that much? Added to this, the nature of the easements means that the debt on employer legislation has become even more complicated than it already was, and more changes are planned. See our alert Debt on employer evolves again which also looks at the extent to which the Government took on board responses to the consultation.
There are a couple of other areas where the DWP's stance has proved controversial. One area relates to collective defined contribution schemes. The other relates to equalising GMPs.
Despite significant lobbying, the DWP has decided to reject calls for amendments to legislation which would have enabled the introduction of collective defined contribution schemes. The Association of Consulting Actuaries was very much in favour of these schemes, which would have had the potential to offer greater economies of scale and smoothing, but the Government decided against their introduction for a range of reasons (such as concerns about managing risk in a way that would be fair to different generations of members). It is perhaps disappointing that employers are not to be given greater flexibility.
The recent Minister's statement telling schemes to equalise GMPs has been the source of much more controversy. The DWP has no plans to issue any guidance on this and in the absence of any legislation telling schemes how exactly to go about any equalisation exercise there is, understandably, a certain amount of confusion. Looking at what the Pension Protection Fund and Financial Assistance Scheme are doing on this front may be of some help but would be no guarantee that trustees will have met their legal obligations. We suggest trustees take their time before rushing into dealing with this.
One other area grabbing the national headlines from time to time is that of the likely outcome in relation to the default retirement age (the age discrimination legislation allows employers to retire staff at age 65 without fear of an age discrimination claim being made). The Government's decision to bring forward its review of the default retirement age had a direct impact on the High Court's recent Heyday ruling (to read more on this, see our alert Heyday challenge fails: UK default retirement age is legal... for now). The new coalition Government has announced that it plans to phase out the default retirement age, but no further details are available yet.
Making a NEST
Work continues apace in the lead up to NEST (the new name for personal accounts). The main auto enrolment regulations have now been finalised (to see our alert Feathering the NEST egg - the final shape of workplace pension reform on the draft). The Budget included further developments on the NEST front (such as the introduction of a regulation-making power enabling HMRC to deal with any unintended tax consequences arising from NEST). In addition to this, the DWP has decided that its proposed guidance on the use of default options in schemes that will be used for auto enrolment will be extended to cover occupational schemes (the aim being to issue the guidance in Spring 2011). The DWP has said that it will be working with the Investment Governance Group on this. Interestingly, the response document says that the DWP will take a more relaxed view on member communications than they had originally proposed (operators will only be required to give information about their default option reviews on request), which seems to be pulling in the opposite direction from the IGG's stance (to see more on the IGG, see our alert Defined Contribution - focus on investment governance).
Lifeboats charting a course
The Pension Protection Fund (PPF) and Financial Assistance Scheme (FAS) have been navigating their way through changes visible on the horizon for some time.
The PPF has, in line with the change for registered pension schemes, increased its minimum pension age for compensation from age 50 to age 55. It has also come forward with a revised method for calculating compensation in respect of career average revalued earnings schemes, to better reflect how benefits accrue under those schemes. One key change has been the introduction of the PPF's ability to charge interest on levy payments made late. In the light of this new power it's in schemes' best interests to have in place arrangements to minimise the chances of incurring interest charges.
One aspect of PPF activity which has been catching people's attention is its approach to equalising GMPs. The FAS has also been looking at this, having issued some draft guidance earlier this year. Each lifeboat is going for a different approach, with the PPF looking for comparators and the FAS not. The recent DWP announcement about GMP equalisation (see above) has led schemes and their advisers to look for inspiration from the PPF and FAS but with no guarantee as to what will discharge trustees' obligations.
Other PPF work has included:
- updated guidance for section 143 valuations (conducted during an assessment period) to cover, among other matters, the ability to make approximations when calculating protected liabilities and assets where agreed in advance with the PPF
- alterations to the PPF levy (such as reducing the levy cap and scaling factor for the 2010/11 levy and, for the 2011/12 levy, attributing to the score of a subsidiary that of its parent where the parent is at substantial risk of going bust).
With more schemes going into the PPF, it seems that a focus on what the PPF ends up inheriting has become more relevant. One indication of this has been the PPF's guidance for trustees and counterparties about the PPF's power to modify and disclaim onerous contracts under the Pensions Act 2004. If the PPF thinks that a contract has an onerous term/condition (where, according to the guidance, it's "substantially unfair or manifestly prejudicial") then they can disapply or substitute it with one that the PPF thinks is reasonable.The PPF haven't actually exercised their discretion yet but the guidance sets out the broad principles that they would expect to apply. There's also some standard wording from the PPF that trustees can use in their ISDA contracts saying that the fact that the scheme is about to enter the PPF won't count as a termination event if the PPF promises not to disapply any provisions in the ISDA agreement.
As well as equalisation, on the FAS front the last few changes announced at the end of 2007 have now been put into place. Regulations now enable the FAS to absorb a scheme's remaining assets so payments can be made to people whose benefits would have been met in full by the scheme, as well as to people qualifying for FAS payments.
Recent months have seen a big focus on small pensions. Last year's legislation introducing additional opportunities for trivial commutation (broadly, where the commutation payment is £2,000 or less, calculated on a scheme-by-scheme basis, irrespective of the member's benefits in other schemes) has been tidied up, so that GMPs are commutable using that route. HMRC's appetite for change in this area continues, with the Budget statement that a further extension of the new trivial commutation opportunities might include personal pensions, as well as couples pooling two small pots (to get better value by buying a joint life annuity).
One big change has been the increase to the normal minimum pension age for members of registered pension schemes, which took effect on 6 April. As has been the case for many changes with a cliff-edge effect, this increase from age 50 to age 55 resulted in lots of last minute queries about how the increase would operate in practice, not least because those people seeking protection were taking the requisite steps at the eleventh hour and were concerned about whether delays by overwhelmed administration teams might result in lost protection. Aside from checking scheme rules and working out who has a protected pension age, it's also worth bearing in mind that individuals may have a contractual entitlement to retire before age 55.
The restrictions on contribution tax relief for high earners have meant focusing on those individuals who might be affected. If scheme changes are on the horizon, it's also worth remembering that there is scope for being caught out by the legislation in certain circumstances (to read more about this, see our alert Changes to pensions schemes: potential pitfalls for high earners). Although further exemptions have been introduced in respect of the special annual allowance charge (for example, employer or employee contributions agreed in writing before 22 April 2009 but not put into operation by then will be protected) at the moment it looks like the restrictions will continue to apply. In fact, since last December the restrictions have been extended by reference to a £130,000 floor (in contrast to the £150,000 starting point initially announced). We were disappointed to see that the simpler, more transparent, approach of reducing the annual allowance (instead of the changes proposed) was not taken on board by the previous Government. Along with many others, we suggested this approach in our response to HMRC's consultation.
A couple of other tax changes that we've known about for a while are now with us. The notional earnings cap is now in its last year (£123,600 for 2010/11). In view of this, HMRC has issued a reminder that any schemes needing to know what the earnings cap would have been for 2011/12 onwards will be able to calculate this for themselves by following the method in section 590C Income and Corporation Taxes Act 1988). Just around the corner is the freeze on the lifetime allowance and annual allowance, so the 2010/11 levels (at £1.8 million and £255,000, respectively) will remain in place for the tax years 2011/12 to 2015/16. Scheme administrators will need to make sure that their systems take these changes on board.
Big questions up for discussion
The courts saw some interesting questions discussed. We now know (although this has come as no surprise) that deliberately exploiting the PPF is not going to meet with the court's blessing. But this doesn't necessarily mean that trustees should never think about the PPF when reaching decisions. The judge thought that the acceptability of doing so depended on the context and purpose of the power that trustees were thinking about exercising, along with the particular way in which the PPF would be taken into account. In the Ilford case, the nature of the proposed exploitation was obvious, but there will be other situations where the answer will be less clear. See our alert Can trustees have an eye to the lifeboat? We understand that the ruling will be appealed, due to be heard in early November of this year.
Another case looking at big questions particularly relevant to employers seeking to manage their defined benefit pension liabilities concerned a conversion of those liabilities into money purchase liabilities. As with every case, the facts played a key role (for instance, the amendment power contained restrictions) but the judgment has raised question marks over certain methods employed by schemes seeking to implement changes where the rules might present difficulties (such as seeking member consents using a route outside of the scheme rules). Compromise agreements also came under scrutiny. See our alert DB or not DB? on this. We understand that this decision is the subject of an appeal, scheduled for mid-June.
Also looking at big questions, the Court of Appeal examined the question of what counted as money purchase benefits under the scheme in question (for the purposes of working out how the old section 73 statutory order of priorities on winding up ought to be applied). The DWP has taken an interest in this case since the potential for a gap between liabilities and assets in respect of the 'money purchase' benefits appears to mean that members could end up with underfunded benefits but without any Pension Protection Fund protection either.
There is now the possibility that employers who thought they were off the hook for any employer debt in respect of the period up to the 2008 amendments made to the employer debt regulations may need to look at the position once more. Before those amendments, there was a general belief that ceasing to employ actives would (of itself) count as an employment-cessation event. The 2008 amendments introduced wording to that effect so that there was no doubt that that was the position from then onwards. The High Court has recently decided, however, that no longer employing actives before the 2008 changes did not count as an employment-cessation event if the employer still had employees in the description of employment to which the scheme related. For those employers whose position may have shifted as a result of this case, there could be some untangling to do. Having said this, there is another case dealing with some of the same points (that judgment has not been handed down yet) so it would make sense to see what that decision says before taking any action.
The Pensions Ombudsman didn't escape the scrutiny of the courts either. The High Court came to the conclusion that the Ombudsman could operate outside of limitation periods only where the recovery was modest (meaning below £1,000). For those cases where the recovery sought is substantial, any claim that would have been time-barred in the courts will be similarly time-barred if brought before the Ombudsman.
The bigger picture