The DWP has issued a consultation document on proposed changes to the Employer Debt Regulations which govern the way cessation liabilities, or "section 75 debts", occur in respect of occupational defined benefit pension schemes.
The changes proposed to the section 75 debt legislation are intended to improve the current position, which is agreed to be defective and unworkable in many respects. Many clients will have already experienced that where companies are selling subsidiaries or restructuring their groups, the default "buy-out" basis for the deficit has proved unduly burdensome. There is usually no intention on the part of the parent companies involved of reducing their commitment to the scheme or of "walking away" from the liabilities yet the existing debt legislation nevertheless often results in an obligation to accelerate scheme funding to an unnecessary extent. Problems also arise where employers "sleep walk" into debts when the last active member employed by a particular employer leaves service. We have had to develop a number of complex solutions to deal with the problems caused by the default buy-out position.
The new draft legislation is intended to allow greater flexibility in dealing with section 75 debts and, in large measure, the changes are welcome and effective. In many cases, the new legislation validates the solutions which we have already developed. There is greater flexibility in actually calculating the debts that are due, a proper deduction is given for transferred liabilities, apportionment is made easier and there is welcome clarity on the definition of a particular employer's liabilities. However, the arrangements proposed are complex and reasonably prescriptive, and as with all legislation of this nature, contains surprises and "hidden traps" for the unwary.
It appears, for instance, that companies that simply close their schemes to accrual (as many have been doing in recent times) may now have to fund to buy out levels; this goes significantly further than the current legislation.
- The "sleep walking" problem still exists.
- Problems may arise where companies wish to enter into temporary periods of participation in schemes, for example, after a TUPE transfer.
- There could also be some ambiguity regarding how section 75 debts have been dealt with in respect of the period from April 2005 to date, and there will be uncertainly in relation to current transactions, particularly those which will close after the new legislation comes into effect (in December this year).
- There are other issues which are not addressed by this draft legislation. In particular, the DWP has shied away from dealing with the central problem with the legislation which is that the default position remains based on the buy out deficit. Although the revised legislation will give more scope for trustees to agree alternative arrangements with their sponsoring employers, the existence of the default position could remain a constraint in some circumstances.
There is now a period of consultation which we and other industry professionals will be involved in, and we hope that some of these difficulties can be ironed out.
We will be issuing a more detailed client briefing in due course.