Employer Debt and Multi-Employer Schemes

Introduction

When a company exits an underfunded multi-employer DB scheme, its share of any deficit generally becomes a debt due to the trustees (“the employer debt” or “section 75 debt”). Since September 2005, the employer debt has been calculated on the buy-out basis.

The employer debt regime is a complex area for multi-employer DB schemes, as highlighted by the recent High Court judgment in the Pilots case.1Unsurprisingly, the draft guidance emphasises the importance for trustees of understanding how a section 75 debt is triggered, the implications of each employer’s departure, and the process involved in removing or reducing a debt.

In this Alert:

• Key points
• Mechanisms for removing or modifying the debt
• Trustees’ considerations of employer’s departure
• The employer covenant
• Approaching TPR

Key points

• As part of its series of guidance on employer support, TPR has publisheddraft guidance on multi-employer DB schemes and employer departures.
• It aims to help trustees understand their responsibilities and options, as well as the different mechanisms by which an employer can exit the scheme.
• Employers are also on TPR’s radar, with a section of the draft guidance devoted to raising their awareness and highlighting TPR’s expectations of them.
• The consultation on the draft guidance, to which Sackers will be responding, closes on 23 September 2010.

Mechanisms for removing or modifying the debt

There are six possible ways in which an employer exiting a multi-employer DB scheme can remove or modify its liability to pay a section 75 debt to the scheme. These are:

• the de minimis restructuring test;2
• the general restructuring test;3
• scheme apportionment arrangements;
• regulated apportionment arrangements;
• trustee sanctioned withdrawal arrangements; and
• approved withdrawal arrangements.

The draft guidance looks at each mechanism in turn, drawing out the key considerations for trustees. For example, where a trustee sanctioned withdrawal arrangement4 is put in place, trustees should satisfy themselves of the strength of the guarantor’s covenant at the date of the transaction, and keep it under review. If the guarantor’s covenant weakens, the trustees should take steps to address this, just as they would if another sponsoring employer showed a weakening covenant.

Trustees’ considerations on an employer’s departure

On an employer exit, trustees should first consider whether it is appropriate for the employer to pay its debt in full – it will not always be possible for trustees to justify accepting less. For example, TPR expects the entire debt to be pursued where a departure would weaken the overall employer covenant, and it is unlikely that appropriate mitigation (something of value in return) will be provided.

In addition, trustees must understand the reasons for the employer’s exit. Is this a one-off departure or part of a series of events “where the ultimate aim is to abandon the scheme or where the overall effect would be of material detriment to the scheme”?

Whatever action is ultimately taken, trustees need to decide whether it is “in the best interests of scheme members”.

The employer covenant

The draft guidance reinforces the need for trustees to understand their employer covenant, and to assess its strength regularly. As well as informing decisions in relation to the scheme’s funding, TPR believes this will help trustees take appropriate action on an employer exit.

To assess covenant in a multi-employer scheme, trustees also need to understand exactly which companies are responsible for meeting the scheme’s liabilities and in what proportion. TPR states that, in most cases, trustees will require independent professional advice to assess this.

Approaching TPR

TPR encourages trustees to let it know if they have concerns about a transaction. Equally, if employers are worried about the potential implications of an employer departing the scheme, they may apply for clearance. If a transaction results in a material detriment to the scheme, TPR states that it will consider using its anti-avoidance powers. This statement has all the more force since TPR issued its first contribution notice on 29 June 2010.

1 PNPF Trust Company Ltd v Taylor and others [2010] EWHC 1573 (Ch)
2 Only available in limited circumstances where there is an internal group restructuring
3 See footnote 2 above. For further information on both restructuring tests, please see ourAlert dated 18 March 2010
4 The employer debt is split into two amounts, with the departing employer paying (as a minimum) a debt calculated on the scheme funding basis and a guarantor guaranteeing the difference between this and the full buy-out debt