Pensions Insight: 12 to 19 June 2023

In this insight we report on a potentially wide-reaching High Court case ruling that some scheme alterations made in the absence of section 37 actuarial confirmation are void, the Retained EU Law Bill, the Pensions Regulator’s pensions dashboards blog and its annual funding statement analysis, and finally on the latest Pension Protection Fund (PPF) 7800 Index funding figures.

High Court rules that scheme amendments made without section 37 actuarial certificate are void

In a significant High Court decision handed down on 16 June 2023, Mrs Justice Bacon has concluded that alterations made in March 1999 (including ones relating to revaluation) to the rules of a contracted-out defined benefit pension scheme were void and ineffective because of the absence of written actuarial confirmation required under Section 37 of the Pension Schemes Act 1993 (Section 37 Confirmation).

The judge also concluded that:

• the reference to post 6 April 1997 contracted-out benefits (known as section 9(2B) rights) in the applicable legislation covered both past and future pension rights meaning that the requirement to obtain Section 37 confirmation potentially covers a wider range of pension rights than if it related to past service only; and
• the voidness extended to all alterations to section 9(2B) rights, not just those changes that would or might adversely affect such rights.

The judgment has potentially wide-reaching ramifications for contracted-out defined benefit (DB) schemes in respect of any alterations that have been made since 6 April 1997 without the necessary Section 37 Confirmation.

Section 37 regime – background

Between 6 April 1997 and 5 April 2016 when contracting-out was abolished, a contracted-out salary related pension scheme (a COSR scheme) had to meet an overall scheme test known as the reference scheme test. It met this test by providing certain minimum levels of benefits.

The section 37 statutory regime provides that the rules of a COSR cannot be altered unless the alteration satisfies certain requirements. These requirements have changed over time, but at the time of the 1999 Alterations, section 37 and regulation 42 of the Occupational Pension Schemes (Contracting-out) Regulations 1996 prescribed that a COSR scheme’s rules “cannot be altered in relation to any section 9(2B) rights unless…” the scheme actuary was informed in writing of the proposed alteration, the actuary had considered it, and provided written confirmation that, following the alterations, the scheme would continue to satisfy the reference scheme test. Such confirmation was usually provided in the form of a ‘Section 37’ actuarial certificate that would be attached to scheme rule amendments.

Issue 1 – absence of Section 37 Confirmation renders rule alteration void

The judge decided that not having Section 37 Confirmation rendered the 1999 alterations void because the words “cannot be altered” in section 37 were unambiguous – a change which was made without Section 37 Confirmation “simply cannot be made”.

The judge also noted that the applicable legislation required that alterations to the rules of a COSR scheme in respect of section 9(2B) rights had to be “preceded or accompanied” by Section 37 confirmation which means that the scheme actuary cannot provide the requisite confirmation after the event.

Issue 2 – requirement to obtain Section 37 Confirmation applicable to both past and future service rights

Section 9(2B) rights are defined as being “rights to the payment of pensions and accrued rights to pensions… so far as attributable to an earner’s service in contracted-out employment”.

The judge decided that, for the purposes of the applicable section 37 regime, section 9(2B) rights included pension rights relating to employment both before and after the date of an alteration and not just to past service. This was because of the way in which section 9(2B) rights were defined and used throughout the relevant legislation.

If the definition had been restricted to past service rights this would have meant that the requirement to obtain Section 37 Confirmation would have been similarly restricted. However, the judge decided that the protection provided by the Section 37 regime as it then was also included rights relating to contracted-out employment after the alteration date.

Issue 3 – Consequences of voidness applies to all applicable alterations not just adverse ones

The judge also considered whether the requirement for Section 37 Confirmation was restricted to adverse alterations. She decided that there was nothing in the applicable legislation that restricted it in this way or any reason to include such a restriction. This means that not having Section 37 confirmation (based on the legislation at the relevant time) invalidates “all amendments to the rules of a contracted-out scheme” not just those that would or might adversely affect section 9(2B) rights.

Comments and next steps

As the judgment notes, questions as to the consequences of scheme amendments not having Section 37 confirmation “have been the subject of considerable uncertainty in the pensions industry for some time, but have not yet been determined in proceedings concerning other schemes”. We now have the answer, and it could have significant ramifications for pension schemes where amendments have been made without obtaining Section 37 confirmation. The financial impact for the Scheme is estimated to be approximately £10m.

As it stands, the decision has potentially significant consequences for some schemes. Arguably, it is a rather harsh result for what could be considered a technical breach especially for amendments which are not adverse and in respect of which Section 37 confirmation would have been provided had it been sought. It may also go against the intentions of Parliament taking into account that an earlier version of the Section 37 regime permitted retrospective validation (and noting that there is current provision in Section 37 to allow regulations to be made that will retrospectively validate alterations that would otherwise be void). However, the conclusions reached about the meaning of the legislation are clear – we will now have to wait and see whether the decision is appealed or if Parliament intends to step in with legislation that will remedy the position in appropriate cases.

In the meantime, trustees of formerly contracted-out DB schemes should liaise with their legal advisers to ascertain whether there have been any amendments to their scheme since 6 April 1997 in respect of which Section 37 confirmation was not obtained and the impact that this may have. They should note that this case relates to the statutory position between 6 April 1997 and 5 April 2013, and this will need to be factored in accordingly – the legislation was changed on 6 April 2013 and again on 6 April 2016 when contracting-out was abolished.

Retained EU Law (Revocation and Reform) Bill: Commons consideration

In the ongoing ping pong stage of the Retained EU Law (Revocation and Reform) Bill, the House of Commons has rejected the House of Lords’ suggested insertion of additional scrutiny of certain statutory instruments (see our Insight) – this change together with other relevant ones made by the Commons will now be considered further by the Lords.

Pensions Regulator round-up

Blog on pensions dashboards and the importance of data

In its 14 June blog, the Pensions Regulator emphasises the importance of data in ensuring scheme readiness for pensions dashboards. The blog comes off the back of the Government’s 8 June statement that there will be a single statutory backstop connection date of 31 October 2026 for all schemes in scope with a staging timetable for connection dates by scheme size and type to be set out in guidance.

The Department for Work and Pensions (DWP) and the Regulator “expect all trustees and scheme managers to be getting to grips with their member data to avoid competing demands on capacity and other resources”. Having adequate data means having both the information itself and the data being accurate. The Regulator is conscious that there may be problems in this area since its analysis has revealed that only 43% of those asked held digital personal and contact data for members and that the most significant accuracy problems are with deferred members.

To prepare schemes must:

• understand what information will be needed for matching members with their pensions and what has to be issued to members after they have been matched;
• assess whether the scheme’s data meets these requirements (for example, scanned and PDF documents will not be enough) – remedy where necessary and so far as possible;
• be able to meet the tight deadlines that will apply to providing data:
  • administrative data (scheme, administrator, and employment information) and signpost data (website details for accessing costs and charges information, the SIP and the implementation statement) must be provided immediately, and
  • value data (accrued and projected pension information which will differ according to benefit type and member category) must be provided immediately in some cases and in others, three (defined contribution) or ten (all other cases including defined benefit) working days.

Action: If they have not done so already, trustees of occupational pension schemes with 100 or more non-pensioner members should liaise with the scheme administrator to begin preparations including assessing the quality of data and improving this where necessary.

Regulator analysis behind AFS 2023 demonstrates improved funding for most schemes in scope

The Regulator’s analysis supporting its 2023 annual funding statement (AFS) (see our Insight) ‘suggests’ that, in aggregate, most Tranche 18 schemes (those undertaking valuations with effective dates between 22 September 2022 and 21 September 2023) will have improved funding levels due to investment out-performance and gilt yield increases which will reduce technical provisions. However, this is tempered because of scheme-specifics, which mean that there could be significant variations between schemes. Furthermore, certain schemes such as those in pooled funds that were unable to meet recent liability-driven investment (LDI) collateral calls, may see a drop in funding levels.

The analysis also considers covenant, noting that the employer’s covenant may have been affected by recent economic challenges – some employers will face affordability issues whilst other schemes which have reached their long-term objective may not be as reliant on covenant. Covenant has not been factored into the analysis.

The analysis will provide comfort to many Tranche 18 schemes that are likely to see improved funding levels, but this will not be the case for all, and the analysis is of course based on approximations and uses assumptions which may differ to actual scheme experience.

PPF 7800 Index Report shows scheme funding has increased

The latest PPF 7800 Index Report setting out the estimated funding position on a section 179 basis as at the end of May 2023 of the eligible 5,131 DB schemes shows that:

• the aggregate surplus of these schemes increased over the month to £430.9bn from a surplus of £378.6bn at the end of March 2023;
• total assets were £1,385.2bn and total liabilities were £954.3bn;
• the funding ratio increased from 136.1% at the end of March 2023 to 145.1% at the end of last month; and
• there were 486 schemes in deficit and 4,645 schemes in surplus.