Defined benefit pension schemes – what are the options for employers during Covid-19?
The Pensions Regulator (the Regulator) has published extensive guidance for employers and trustees during Covid-19.
Our previous bulletin looked at auto-enrolment obligations. In this update, we look at the options for employers with defined benefit (DB) schemes.
Do employers of defined benefit scheme have to carry on as usual?
Although auto-enrolment duties continue as normal during Covid-19, the Regulator has introduced a number of "easements" which are designed to help employers and trustees of defined benefit schemes navigate their way through the difficulties. A summary of the key easements is below.
Can I still recover employer pension contributions where staff are furloughed?
Yes, the right to recover the statutory minimum employer auto-enrolment pension contributions is not restricted to any particular scheme. So an employer of a DB scheme will be able to recover these for any staff on furlough in the same way as an employer of a defined contribution scheme.
The amount that can be recovered is also calculated in the same way, regardless of the type of scheme. It is limited to 3% of "qualifying earnings" on the amount of wages received under the furlough scheme. For the tax year 2020/21, qualifying earnings are all earnings between £6,240 and £50,000. Unfortunately, in practice, this amount will almost certainly fall significantly short of the employer contributions that are due to the DB scheme.
Can employers stop deficit repair contributions?
The key easement introduced by the Regulator is that it has said that trustees of DB schemes should be open to requests by employers to reduce or suspend employer contributions in certain situations provided the reduction or suspension is (at least initially) only for a period of up to 3 months. This easement remains in place, for now, until 30 June 2020.
The Regulator has said that it will be pragmatic where trustees are asked to agree to such requests where the following conditions are met:
- The need for it can be justified. This is likely to require clear information from the employer on the financial impact of Covid-19 on the covenant and, to the extent available, a forecast of the ongoing impact together with regular updates.
- A plan is made for deferred scheme payments to be caught up (e.g. beyond the shorter term).
- A plan is agreed for mitigating any detriment caused to the scheme. Where this is not possible, any decision to proceed without mitigation must be in line with trustees' fiduciary duties.
- The scheme is being treated fairly compared with other stakeholders. In particular, the Regulator expects that payments to shareholders (as well as other forms of value leaving the employer) will have ceased.
Current industry estimates suggest that 10% of employers are looking into making requests along these lines. We expect this number to increase as the financial toll of Covid-19 becomes clearer and employers look for ways of easing the burden.
Each case will turn on its own facts and any request will require a careful review (and amendment where necessary) of the scheme rules, the schedule of contributions and recovery plan to make sure it works as planned and there are no unintended consequences. For example, in some schemes, a suspension or reduction in contributions could trigger wind up and in turn a very large exit or cessation debt.
Requests in relation to a public sector scheme, such as the Local Government Pension Scheme may be more difficult and complex to implement (particularly in relation to future service contributions) as these schemes are governed by legislation rather than a trust deed and rules which generally facilitate more flexibility.
What about DB schemes where the valuation is close to completion?
In terms of valuations that are close to completing, the Regulator has said the following:
- It does not expect trustees to revisit their valuation assumptions (although it may be in the best interests of scheme members to do so);
- Whilst trustees are not required to take into account post valuation experience, they should consider it when agreeing recovery plans, with a focus on whether provisionally agreed deficit recover contributions are still affordable for the employer.
- Trustees may delay submitting their valuation by up to three months beyond the 15 months statutory deadline where they feel they need the extra time to properly evaluation the position, including the impact of recent events on the employer covenant.
What about transfers out?
Another key easement is that trustees may suspend cash equivalent transfer value (CETV) quotations and payments for up to three months.
This could be very useful for a number of reasons and we expect that schemes will make use of this flexibility bearing in mind the sheer speed of the impact on schemes and member behaviour. First of all it gives trustees time to review CETV terms which is likely to be necessary where there have been significant changes in funding levels and/or to assess the administrative impact of any increase in demand from members for CETV quotes. Secondly, there has been a worrying and exponential increase in the number of scams impacting pension scheme members since Covid-19. So the ability to suspend a transfer will be very useful for trustees where they are concerned that the receiving arrangement is not genuine and the transfer may not be in the member's interests.
If the trustees would like to continue the suspension beyond three months, they must notify the Regulator.
What approach will the Regulator take generally?
The Regulator has said it will take a "proportionate and risk based approach" towards enforcement decisions and a "reasonable, pragmatic and proportionate approach" to its regulation of schemes in the current environment, with the aim of helping to get employers back on track and supporting both employers and savers.
It remains to be seen how this will work in practice as, despite the easements, the legal requirements regarding pensions continue to apply. Employers and trustees should therefore carefully evaluate the risks before taking a decision which would lead to a breach of their duties or obligations despite the Regulator's warm and reassuring words.
What about the Pensions Schemes Bill currently going through Parliament, is it relevant to anything done now?
Employers should keep one eye on the way the Regulator may view any decisions made now under the new, enhanced powers it will be granted under the Bill.
In particular the Bill introduces two new grounds under which the Regulator may issue a contribution notice (CN) and new criminal sanctions. Although the criminal sanctions would not have retrospective effect, the new grounds for issuing a contribution notice are likely to be enforceable retrospectively. This means the Regulator could issue a CN under the new grounds for acts (or failures to act) that take place before the Bill becomes law, including any acts (or failures) made in connection with Covid-19..
Whilst the Regulator has said it will do what it can to help employer through this difficult time, it may view things differently when looking back on decisions made by employers which it considers, with the benefit of hindsight, inappropriate. Employers can protect themselves by taking advice, carefully documenting decisions and reasons behind them as well as referring to the current guidance from the Regulator.
What can employers expect going forward?
This bulletin is based on the current guidance published by HMRC and the Regulator. Employers should keep a watching brief as to how the easements continue to apply, particularly after 30 June 2020, and whether any additional easements will be introduced.
Rebecca McKay and Martin McFall lead our dedicated Pensions team at Trowers & Hamlins. The team has a wealth of experience in advising employers and trustees of pension schemes as well as administering authorities of public sector pension arrangements on all aspects of pensions law. We are here to help and guide you during this global pandemic so please do get in touch with any questions or concerns.