Welcome to Pension Matters, produced by Torquil Clark.
Every month I will update you on the latest legislation and news surrounding corporate and personal pension planning. To find out more about the topics covered in this edition, please call 01902 576707.
Ian Hill, Pensions Technical Manager
Auto Enrolment: Start Taking Action Now
At the risk of sounding like a cracked record I would like to emphasise that auto enrolment is a complex area and most organizations will need at least 18 months to finalise strategy and implement the detail or else they face a real risk of running out of time and potentially facing capacity challenges in securing the support they will need from providers and advisers alike over the accelerated implementation timescales they will leave themselves. To highlight the potential capacity crunch, it is estimated that 43,000 medium sized employers (over 160 employees) will start auto enrolling their eligible job holders in the twelve months from April 2014.
It is crucial for employers to receive impartial advice and diarizing action plans to ensure their auto-enrolment solution is an optimum fit for their business and ready in time. This is particularly important now given that staging dates are confirmed and it is now less than 2 months until the enforcement regime comes into force. Some regulations even came into force from 1 July 2012.
Administration ease and communications are key to the success of the implementation of auto-enrolment and software/middleware, such as the development of ‘hubs’ will have a big part to play in delivering complete solutions for many companies.
Not all current pension providers will be in a position to give the necessary support as pension provider perspectives on auto enrolment are often and understandably influenced by their own propositions and system capabilities.
One can not emphasise enough the importance of taking action sooner rather than later as that staging date in employers calendars is closer than many realise.
Salary Sacrifice & Auto Enrolment
At a time when many employers are struggling to finance the additional contributions that auto enrolment brings, any cost savings are welcome so the confirmation by HMRC that salary sacrifice arrangements for pension contributions may be cancelled at any time without affecting their validity is very welcome.
However, please note that employers must still be careful to ensure that their salary sacrifice process does not jeopardise the auto enrolment process by appearing to oblige employees to make a decision before becoming members of a pension scheme. The Pensions Regulator has suggested that auto enrolment and salary sacrifice communications should be kept separate to avoid this confusion.
Employers can possibly go down the avenue of contractual enrolment as a straightforward way to implement salary sacrifice and reduce the burden of auto enrolment. On reflection whilst contractual enrolment is appropriate in some circumstances, it is likely to increase costs by enrolling employees who do not legally need to be enrolled. It does not absolve an employer of their automatic enrolment duties and there is no statutory opt-out right with contractual enrolment, which could affect some tax protection for high-earners. There are limited operational efficiencies, as employers will still need regularly to assess pension scheme members who have been contractually enrolled. The correct course of action to take if such members cease active membership depends on whether or not the employee was ever an eligible jobholder whilst a member of the scheme.
Unisex Annuity Rates
Following the 2009 decision of the European Court of Justice in the Test-Achats case and the subsequent government led consultation launched last December, HM Treasury has confirmed that it will go ahead as planned and implement regulations which will require the use of unisex factors in respect of annuity and life insurance policies taken out on or after 21 December 2012..
The response document also contains some discussion on workplace pensions. In particular, the Government rejects representations that the exemptions which continue to permit gender discrimination in workplace pension schemes should also be abolished so as to avoid a two tier annuity market, although the Government states that it intends to keep this under review.
The new clarification has confirmed that this will not apply to occupational pension schemes. The Directive only covers insurance and pensions which are private, voluntary and separate from the employment relationship, employment and occupation being explicitly excluded from the scope.
Small Pension Pots
Steve Webb, the Pensions Minister, has stated that the way to tackle the increased proliferation of small pension pots for individuals expected under auto enrolment will be for small pots to be transferred automatically when an individual moves to a new employer and joins its scheme.
The original consultation on small pots launched by the Department for Work and Pensions (DWP) in December considered three options for dealing with them:
- Improving the system for transfers initiated by the member.
- Automatic transfer of small dormant pots to an "aggregator" scheme or schemes, however it looks like the DWP will reject this on the grounds of arguments that a low pot size limit of around £2,000 would be needed in order to avoid market distortion. The low limit would mean few of an individual's pots could be consolidated, largely nullifying the objective
- Automatic transfer of small pots from job to job. Automatic transfer of small pots will take place (without advice, and with the individual able to opt out) when an individual starts a new job and stays in a scheme after automatic enrolment.
Defined benefit rights and legacy pots (i.e. those created before automatic enrolment) will be initially out of the scope of the automatic transfer process.
Short service refunds for DC funds in occupational pension schemes are still to be abolished in principle, but the Government is to look into whether to allow the refund of the tiniest "micro pots" (the short-service refund rules for defined benefit schemes will remain).
The government intends to bring forward primary legislation at the earliest legislative opportunity to enable automatic transfers, abolish short service refunds and enable an alternative system for refunding "micro pots".
Alongside this, a working party will consider improvements to the current "voluntary transfer" framework.
This is a major decision which will affect pension schemes, employers and providers. Inevitably this will lead to more administration and cost but the Government claims that over time this will be outweighed by savings made - presumably compared to what would otherwise apply from having to administer the future proliferating dormant pots.
The consultation response has only scratched the surface of the issues that will need to be addressed before this proposal becomes law. A significant potential pitfall is the risk that the receiving scheme performs less well than the transferring scheme. Employers and trustees will be keen for the Government to assist in minimising the risk of claims against them as a result of automatic transfers to or from their schemes.
The position of those with multiple jobs, those with gaps between jobs, the self-employed, earners below the qualifying earnings threshold for auto-enrolment and those who move to an employer using a DB scheme as its auto-enrolment vehicle will also require consideration. There may also be broader issues to overcome around interaction with existing legislation, particularly consumer protection and auto enrolment rules.
NEST Restrictions
Legal challenges from pension providers could hinder any attempts to remove restrictions on the National Employment Savings Trust (Nest).
In a House of Commons European Committee debate on the European Commission's pensions' white paper, Steve Webb, the Pensions Minister, suggested he would be willing to remove restrictions on Nest but warned that moving too quickly could provoke a legal challenge from providers, delaying reform.
Webb said he could get ‘a good headline’ by removing the ban on transfers between Nest and other pension schemes and the cap on contributions, but said it was not clear European law would allow it.
Webb stated that if there was a legal challenge from a provider this could take 18 months to be resolved in the courts. The political will is that Nest does its job.
The restrictions were put in place so that Nest did not fall foul of EU state aid rules. Nest has been funded by a multi-billion pound government loan which, would be viewed by the European Union as an unfair government subsidy unless Nest was restricted to a target market of savers with low incomes and small businesses.
Regulator Warns Of Auto Enrolment Complacency
The Regulator warned that the average large business needs 18 months to get ready for auto-enrolment without running the risk of compliance becoming more costly and complex; and that businesses with auto-enrolment staging dates in the next 12 months should already have a detailed action plan in place to ensure they are ready.
Auto Enrolment Legislation Now Complete?
The final pieces of the auto enrolment jigsaw are now complete. All employers (and pension scheme trustees, where relevant) should start looking at the processes involved, if they have not already done so, on how they will comply with the highly complex auto-enrolment requirements.
The Government has made regulations to implement changes to auto enrolment already proposed or confirmed in previous consultations.
- The staging arrangements and the phasing of contributions consulted on in March this year are now implemented
- Changes to the timing, and slight widening, of the basic scheme information disclosure requirements for occupational pension schemes, to tie in with the introduction of auto enrolment. These follow proposals in the consultation paper issued in April.
There are small variations from the original proposals. The first set of regulations above, as expected, postpones the obligation on employers with fewer than 50 "workers" to auto enrol qualifying workers into a workplace pension scheme until June 2015 at the earliest. But it also simplifies the identification of the staging dates for small and micro employers (as defined), by having regard to the number of workers in their PAYE scheme as at 1 April 2012, rather than the previous complex and burdensome approach involving identifying "full time equivalent workers".
The disclosure changes take effect from 1 October 2012. One thing made clear is that schemes not being used for auto-enrolment can continue to provide basic scheme information at the latest within two months of an individual joining the scheme. Schemes used for auto-enrolment must provide the information within the reduced timescale of one month of the scheme receiving "jobholder information" from the employer; and also meet the slightly expanded information requirements about how eligible members are admitted.
Trustees & Corporate Deals
Any Trustee who is involved in a corporate transaction is left in an unenviable position. However, due to proposals in the Takeover Code this may change slightly.
The proposals, set out in a document called Pension Scheme Trustee issues, forms part of a series of consultations by the Takeover Panel.
These proposals should give trustees an opportunity to get a much better idea of the likely impact on the pension schemes they oversee during a takeover bid, enabling them to represent the interests of scheme members at a much earlier stage in any discussions. However, under this new framework they are not being given any new powers.
The proposals include:
- Offer documents should state the bidder's intentions regarding the target company's pension scheme and the likely repercussions (if any) of its strategic plans for the target on its pension scheme. The bidder would be committed to the stated actions for at least 12 months
- The bidder and target companies should provide certain documentation to the trustees of the target's pension scheme or schemes
- The target company should circulate the opinion of the target pension scheme trustees
- If a bidder agrees future funding terms with the trustees of the target company's pension scheme, a summary of that agreement should be included in the offer document
The aim is to create a framework in which any pension scheme implications can be a discussion issue during the course of the offer. The Takeover Panel intends the changes to help ensure that the bidder, the target board and the scheme trustees have an opportunity to express their views at an early stage, and enable any issues to be considered by the target's shareholders and others.
FSD & Insolvency
Last year, the Court of Appeal upheld a 2010 High Court ruling that FSD liabilities rank as an expense in an administration. There were concerns that the judgment could frustrate the administration process and make banks more reluctant to lend if their debt did not have priority over an FSD in insolvency.
The Pensions Regulator has published guidelines on Financial Support Direction (FSD) and insolvency to help banking, insolvency and restructuring professionals to understand its approach to its FSD power in insolvency situations.
An FSD requires the recipient to put in place Regulator-approved financial support for the scheme in respect of the obligations of an employer who is either a service company or is insufficiently resourced.
The FSD liability ranks as an expense in the insolvency process which means it has “super priority” ahead of many other creditors.
In 2010 (in separate decisions) the Regulator’s Determinations Panel decided to impose FSDs against various companies in the Nortel and Lehmans groups. Both determinations have been appealed. In addition, the administrators of the Nortel and Lehmans companies applied to the Companies Court for directions as to the effect of an FSD on a company in administration/liquidation.
This can be confusing as an FSD issued by the Regulator before the company enters an insolvency process is a “provable debt” which means it will rank equally with unsecured creditors in the company’s insolvency; but an FSD issued after an insolvency process begins will rank as an expense, which is prioritised ahead of other unsecured creditors.
This decision grants the pension scheme “super priority” behind holders of fixed charges but ahead of other creditors (including unsecured creditors, floating charge holders and even the administrator’s own fees) where the FSD is imposed after (but not before) the insolvency process affecting the FSD recipient begins.
The Regulator comments that where an FSD is appropriate, it has no intention of deliberately delaying its issue until after an insolvency event in order for the FSD to have super priority.
The Regulator has suggested that administrators and other interested parties (for example lenders) should approach it to discuss any likely regulatory action against the insolvent companies. In particular, Regulator clearance should be considered where appropriate.
Incentive Exercises: Pension Regulator’s View
The industry Code of Good Practice on Incentive Exercises was published in June 2012. The Regulator has now published a short principles-based statement setting out its approach to incentive exercises.
The Regulator reiterates that, in its view, incentive exercises are not likely to be in the interests of most scheme members (although it does explicitly acknowledge that a minority of members may have personal circumstances which mean that accepting an incentive offer could put them in a better position).
Trustees should approach such an exercise cautiously and make sure they understand (and act in accordance with) their legal obligations; fully understand the exercise and its structure as well as how it achieves the level of good practice.
Trustees should be involved and actively engaged with the proposal from the start so that members are properly informed and treated fairly;
- manage conflicts of interest;
- be aware of and meet their data protection duties;
- consider the potential implications of the exercise on the strength of the employer’s covenant;
- and be careful not to advise members where they are not authorised to do so.
There are a further five principles stating:
- an offer should be made in a clear, fair and not misleading way to enable members to understand the implications and made decisions that are right for them.
- the offer should be open and transparent so that all parties involved are aware of the reasons for the exercise and the interests of the other parties.
- conflicts of interest should be identified and properly managed in a transparent manner and removed where necessary.
- trustees should be consulted and engaged from the start of the process, with any concerns arising through the exercise alleviated before progressing;
- independent and impartial financial advice should be available to all members.
The offer should be structured so as to require members to take independent financial advice. Where financial advice is not required (for example pensions increase exercises) detailed guidance should be given instead.
PPF Liability
Pension Protection Fund levy may rise as the method used to produce levy rates in which data is ‘smoothed’ over five years.
Levy rates are levelled out over five years and calculated using assets and liabilities information, a rating of the sponsor’s strength as assessed by Dun and Bradstreet and taking into account deficit reductions contributions, and Scheme’ investment risk and contingent assets.
Old data periodically drops off and the most recent market conditions begin to make an impact. Therefore, the relatively high bond yields of 2008 will be replaced by the very low yield climate being experienced today. If schemes deficits are bigger then the levy they pay is bigger, so schemes pay out more and their deficit grows.
The PPF has to fund itself over the long-term and if investment returns were not sufficient it would naturally have to find the money from somewhere.