The Department for Work and Pensions (DWP) has published its White Paper on ‘Protecting defined benefit pension schemes.’ This follows on from its consultation on the Green Paper ‘Security and Sustainability in Defined Benefit Pension Schemes’ and various election promises that were given on pensions. It's separate from any recommendations as to pension changes made by the House of Commons Select Committee on Work and Pensions, and it is not unusual for the two organisations to express differing views as what changes should be made to defined benefit (DB) pension regulation. Perhaps this is not surprising, given how high profile DB schemes have been recently.
This note gives an overview of the White Paper and what trustees of Defined Benefit Schemes (DB) should look out for in the coming months and years.
The importance of defined benefit pensions in the UK
Approximately £1.5 trillion of assets are currently held under management by DB schemes, for around 10.5 million scheme members in the UK. Given the wide scope of DB schemes, and the recent high-profile cases of failed DB schemes, the DWP conducted a consultation to review the state of DB schemes and how they can be improved.
Overall, the DWP found that the existing framework is working broadly as intended, and that in the DWP’s opinion, the vast majority of the DB members can expect to receive their benefits in full. However, improvements can be made and the following proposals have been suggested.
1. To strengthen the regulatory framework and the Pension Regulator (TPR) Powers
The proposals include:
- Punitive fines for actions that deliberately put scheme members’ benefits at risk. This is to be backdated, potentially to 19 March 2018 – the date when the DWP White Paper was published.
- Create criminal offence for ‘wilful or grossly reckless behaviour’ and expand the process of disqualification of company directors.
- Enhance the clearance regime so that, in all corporate transactions, the employer must give appropriate consideration of the impact on their DB scheme(s) through a notification of intent – this is similar to the existing pension requirements under the Takeover Code.
- Review of the notifiable events regime – this is sensible as there are notable omissions from the current regime. The timing of notifications is also to be clarified.
- Improving TPR’s information gathering powers to bring them into line with powers that TPR currently hold, in relation to automatic-enrolment pension schemes and Defined Contribution (DC) Master Trusts. This includes the power to require attendance at interviews with TPR, and civil sanctions in the form of fines for non-compliance, as well as widened powers to inspect records. Professional advisers are also likely to be required to cooperate, which is again a helpful step forward as they won’t be able to hide behind non-disclosure agreements.
The DWP recognised that it is only a small minority of employers who have, or will, wilfully put members’ benefits at risk. Their proposals aim to deter such behaviour while balancing the impact greater regulatory powers and requirement would have on legitimate business activity.
The devil will be in the detail as regards the punitive fines and the new criminal offences to be created. However, the legislation will have to be carefully drafted so that it is clear to company directors, and their advisers, what actions they can still legitimately take without fear of reprisal from TPR. Considering whether to apply for clearance for all corporate deals that involve DB schemes is unlikely to be much of a change, as this almost always occurs anyway already. However, new legislation has become law (from 6 April 2018) to relax some of the pension requirements that cause problems for multi-employer schemes when an employer goes through corporate change, which is slightly at odds from the White Paper proposals. The key change is to allow such an employer to defer the payment of its section 75 pension debt to the scheme if the employer ceases to employ an active member in the scheme.
Presumably, TPR will ensure that this new legislation is operated in a way that is broadly consistent with the DWP’s overall aspirations in the White Paper. Other than this, the DWP have announced that they are not proposing to make any further changes to the employer debt legislation for multi-employer schemes. From the legal perspective, the April 2018 multi-employer legislation is now very complex, and a root and branch revision would be beneficial.
Giving TPR wider information gathering powers is sensible and will stop some of the games played currently over what information is freely given to TPR.
2. To improve the system of scheme funding
The proposals include TPR giving clearer funding standards, and focus on how prudence is demonstrated when assessing scheme liabilities, what factors to consider when creating recovery plans, and ensuring that funding objectives are set against a long-term view, i.e. to ensure the end game is properly focused on. The DWP consider that affordability is not an issue for most schemes.
For the most financially vulnerable schemes, there would be greater oversight by TPR which would be triggered using key metrics in the triennial valuation of schemes. Metrics that could be used include the scheme deficit and the recovery plan. This is likely to be helpful, although it is probably only what happens in practice anyway.
The government also intends to legislate to allow TPR to take enforcement action for non-compliance of the Code of Practice on funding DB schemes. This will change the status of such Codes to effectively being law.
To improve scheme governance and accountability to members, DB schemes will be required to appoint a Chair who will give a Chair’s Statement in the triennial valuation submitted to TPR. This is in line with the recent changes made to DC schemes, where the Chair’s statement is also being used as a mechanism for enabling comparisons to be drawn quickly between various different schemes. Strict penalties are to apply for non-compliance.
The DWP also intends to widen access to Regulated Apportionment Arrangements (RAA) to more employers who are unlikely to be able to support their DB schemes. It's still not clear quite where the lines will be drawn as to who these employers will be, and this is an area that DWP will continue to look at. Employers will no doubt monitor this with interest.
3. Raising awareness about consolidation
Generally, small and medium-sized schemes are more likely to fail to meet the governance standards expected by TPR. They also suffer from higher administrative costs compared to larger schemes, due to the lack of economies of scale. Consolidation of schemes is one way to tackle this issue.
The DWP will raise awareness about the advantages of consolidation and the existing forms of consolidation that are available, as smaller schemes may not be aware of this option and its potential benefits. They will also facilitate the creation of new consolidation vehicles and put in place the appropriate safeguards.
Over the next year, the DWP will consult on proposals for:
- A legislative framework and authorisation regime to allow for new forms of consolidation vehicles
- A new accreditation regime to encourage existing forms of consolidation.
The DWP’s approach is that innovation in this area is to be encouraged, whilst ensuring that there is only a low risk from transfers and there is sufficient protection for members. The DWP will also consider minor changes to the guaranteed minimum pensions (GMP) conversion legislation to support benefit simplification.
It's worth noting that the current proposal is that employers would be able to walk away from their DB obligations after making a transfer into a “superscheme”. However, these superschemes would be run for profit, with the backing of third party capital providers who could extract profit from time to time from these schemes. Also, the level of minimum funding levels required for a superscheme are far less than those required by an insurance company which provides a bulk annuity facility, so they are already beginning to lobby against this. Additionally, from the members’ perspective, if they stay in an existing DB scheme, they are likely to be able to share in any surplus that may eventually arise in such a scheme. There is currently no proposal that members would be able to share in any surplus generated in a superscheme. This would just go to the capital providers. These types of issues are likely to make such superschemes unattractive so far as, for example, unions are concerned.
4. Continued consideration – for pensions indexation
The DWP note that there are ‘live’ areas which will require continued work and, disappointingly, this includes the indexation of pensions. From a legal perspective, consistency of approach in this area makes it one that should be tackled but doing so would be controversial so any changes have been kicked back into the long grass for the time being.
The Government’s next steps
The DWP will only be able to move forwards slowly with these pension changes. It intends to:
- Take decisive action in relation to changes that can be implemented without changes to primary legislation first of all
- Consult with TPR in 2018 and 2019
- Take forward some primary legislation, during or after the 2019-2020 parliamentary session
- Continue to monitor developments, such as inflation.
In the meantime, schemes should prepare for the appointment of a Chair if no Chair of trustees is currently appointed.
If you would like more detailed advice on the above and how this might affect your scheme, please feel free to contact Penny Cogher using the details above.
Published: April 2018
Pensions Law Update - April 2018
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