Employer Debt consultation: Sackers’ Response

Background

We note that the DWP’s consultation on employer debt, published on 28 June 2011, is aimed at addressing concerns that the Employer Debt Regulations still unnecessarily inhibit corporate activity, in particular the ability of companies to restructure in response to economic changes. These concerns persist, despite recent attempts to address this issue by the introduction (in April 2010) of two new arrangements to facilitate corporate restructurings between two employers participating in the same DB scheme: a general easement and a de minimis easement.

Flexible apportionment arrangements

The draft regulations propose the introduction of a new Flexible Apportionment Arrangement (FAA), designed to offer a simpler method for apportioning a debt than exists currently under the Employer Debt Regulations. However, whilst, of course, we welcome measures aimed at simplifying the Employer Debt Regulations, we question whether the creation of a new apportionment method achieves this.

Although the proposed FAA offers a simpler approach to the existing Scheme Apportionment Arrangement (SAA) structure, it does not create a fundamentally different option for employers. There are three main reasons for this:

one of the main benefits highlighted by the consultation in relation to the FAA is that no debt will be triggered. However, in our experience, debts are rarely calculated in order to enter into an SAA (they are generally estimated);
while it is explicit in the draft regulations that a floating amount can be apportioned under an FAA, we understand this approach has already been commonly adopted in practice under the existing SAA provisions; and
the funding test will still need to be met.

We expand these points below.

In our experience, in order to enter into an SAA a debt is rarely calculated. A nominal amount is paid by the exiting employer and the balance is then apportioned to another appropriate employer. But the balance is rarely a fixed amount based on a specifically calculated debt or, if it is a fixed amount, may not be calculated until it becomes payable.

Normally the debt is estimated by the actuary in accordance with the principles set out in Regulation 5 of the Employer Debt Regulations. This is not necessarily an onerous process. While the FAA has been designed to apportion liabilities, an SAA can achieve the same results by different means:

apportioning a floating amount (which produces the same result on a subsequent section 75 trigger by the guarantor); and
providing that, for the purposes of future debt calculations, the relevant liabilities are attributable to the guarantor (which produces the same result on a subsequent section 75 trigger by any other employer).

We are therefore unsure what the new FAA will add to the employer debt landscape, particularly given the specific acknowledgment in the consultation of the possibility of using a floating amount currently. (The consultation notes that “some commentators interpret the existing Regulations as allowing the floating method of calculation to be used in the calculation of scheme apportionment arrangements”.)

The introduction of an FAA, in addition to the existing SAA, would inevitably create uncertainty as to the validity of SAAs which have been calculated on a floating basis and entered into before 1 October 2011 (the date on which the draft regulations are intended to come into force). If the DWP does proceed with the introduction of FAAs, it should be made clear in the regulations that the introduction of the new facility does not prejudice arrangements already in place.

Another candidate for relaxing current protections would be to require an alternative to the funding test, such as a test akin to the restructuring test (used for the general easement) where the role of trustees is more limited than for an SAA. This could be an appropriate method for facilitating intra-group transfers more widely than the one-to-one basis currently permits, while extra-group transfers continue to benefit from the wider trustee involvement required under the funding test.

As the consultation notes, stakeholders have previously suggested that “the Government should try to do something that would be more straightforward to use – based on the existing scheme apportionment arrangements.” Given this, and our comments above, we consider that amendment and clarification of the existing SAA may be a more appropriate solution.

Period of Grace provisions

The consultation also proposes extending the “period of grace” provision which allows an employer to cease employing an active member of the pension scheme temporarily without triggering a debt, up to a maximum of 36 months.

This extension is likely to be of only limited use, given the requirement for trustee involvement. Requiring trustees to exercise their discretion to determine whether the period of grace should be extended (and if so, for how long) could result in trustees needing to seek advice and/or mitigation (where none is currently required). If respondents are generally in favour of an extension to the period of grace, we wonder if a simpler approach would be to simply limit the extension to 24 months, while keeping the related provisions in their current form.

In any event, our experience is that few schemes have made use of the period of grace provisions to date. This may be a result of the lack of clarity in the definition of “active member” (see further below).

Outstanding issues

The consultation notes that “Schemes will have their own rules about what constitutes pensionable service and hence who is an active member”. We disagree. Scheme rules define the parameters of pensionable service in the context of the scheme, but it is not the case that they define an “active member” for the purposes of the employer debt legislation. This is dealt with in section 124 of the Pension Act 1995, which defines both “active members” and “pensionable service”. In particular, “pensionable service” requires only that the service qualifies the member for “pension or other benefits” under the scheme. This begs the question of whether a life assurance only member or a member with a final salary link is in fact an active member. Neither of those issues was resolved by the Pilots case.

In addition, as the decision of the Supreme Court in Houldsworth and another v Bridge Trustees Limited and another and Secretary of State for Work and Pensions has now been handed down, we anticipate that it will be possible to clarify issues stemming from this decision. Of course, any changes to the Employer Debt Regulations should take account of the DWP’s statement on the definition of occupational money purchase schemes.

There are other areas of uncertainty which are not addressed by this consultation. For example, Regulation 6(4) can give rise to significant problems where a debt is calculated on the statutory basis. We believe that the proposed amendment to Regulation 6(4)(b) would provide greater certainty going forward, but it is not clear whether this is intended as a clarification or a substantive change. This should be clarified as it is potentially relevant to pre-amendment calculations and to the interpretation of the rest of Regulation 6(4) going forward.