Fines for DB negligence leave industry split

The Department for Work and Pensions’ long-awaited white paper ‘Protecting Defined Benefit Pension Schemes’ includes a raft of changes designed to clamp down on a minority of poorly run or underfunded schemes.

It will give the Pensions Regulator powers to levy “punitive fines” against the minority who deliberately put their scheme at risk, and it will make it a criminal offence for anyone “found to have committed wilful or grossly reckless behaviour in relation to a pension scheme”.

If they fail to act or they act in the wrong way then it will bring greater scrutiny on the regulator, so it’s a double-edged sword for them

Simon Kew, Deloitte

Legislation resulting from the white paper is not likely to appear until 2019, but the government is “examining the possibility” of allowing the fines to be levied in respect of any acts from now on.

“It is clear that not all employers want to act fairly. At the heart of the white paper is a strong message for employers tempted to act in a way that is detrimental to their pension scheme,” said Esther McVey, secretary of state for work and pensions, in a written statement to parliament.

“We will not tolerate such behaviour, and will come down heavily on attempts by employers to avoid their responsibilities.”

Fines elicit strong reactions

The use of fines to discourage unscrupulous employers has been suggested by several commentators in response to high-profile corporate collapses, and formed part of the Work and Pensions Committee’s recommendations for the DB sector.

Frank Field, chair of the select committee, welcomed the move but added: “For these measures to be an effective deterrent to the minority of employers wanting to shirk their pension obligations, there has to be a credible threat of them being deployed in full and at speed.”

However, some pensions industry insiders were less than impressed. Hugh Nolan, president of the Society of Pension Professionals, called the fines “populist nonsense”.

“It’s clearly targeting a public perception that is stoked up and is not always well informed,” he said, stressing that while negligent corporate practices should be punished, a proportional application was by no means guaranteed.

”We are relying on the Pensions Regulator to apply that fairly in the face of public pressure, and when you have the mob crying out for blood from someone then it’s very easy for the regulator to go out and slap fines on someone,” he said.

How will funding regime develop?

For the majority of schemes with employers not seeking to dodge their pension responsibilities, the fines are unlikely to apply.

But all DB schemes will be subjected to a new funding regime, focusing on the prudence of liability assessments, the appropriateness of factors used to decide recovery plans, and ensuring that funding objectives take a sufficiently long-term view.

The paper aims to retain a flexible regime, where scheme provisions are judged on a case-by-case basis.

Those aims might be “eminently sensible”, said Darren Redmayne, managing director of covenant advisory Lincoln Pensions, but the threat of fines could lead to a regime that is more prescriptive than scheme-specific.

“If you’re going to go in that direction you will, over time, need to give much clearer lines and parameters as to what is good and what is bad behaviour,” he said.

That could lead the industry back towards regulation in the vein of the Minimum Funding Requirement regime, which Redmayne said “turned out to be grossly inadequate” and had to be redesigned.

However, Lynda Whitney, partner at consultancy Aon, said she thought the fines would be strictly reserved for the worst of corporate practices.

“The fines are very much focused on those who are deliberately and wilfully doing damage to their pension scheme and I genuinely expect that to be for very few at the extreme,” said Whitney.

Industry breathes sigh of relief

While the DWP is aiming for a beefed-up regulator in line with TPR’s new ‘clearer, quicker, tougher’ mantra, it has not pursued the mandatory clearance regime called for in some parts but feared by many in the pensions industry.

Instead, the voluntary clearance and notifiable events framework will be strengthened in collaboration with the regulator.

Measures will also be introduced to improve the effectiveness and efficiency of the regulator’s existing anti-avoidance powers.

“We will work with the relevant parties to ensure these measures do not have an adverse effect on legitimate business activity and the wider economy,” the paper stated.

By not making the clearance process mandatory, the DWP will be unable to guarantee that the service would be used any more than it is currently.

However, Redmayne said the use of fines could put more pressure on advisers to clear corporate transactions, and Whitney said a better-resourced clearance service might find favour again with practitioners.

When the current clearance function was introduced, she said, “a lot of people were going for clearance and finding the process was so slow that actually they had to move on, from a business perspective”.

Negative clearance could help

The new clearance system must take care not to repeat its predecessor’s mistakes, said Simon Kew, director in consulting firm Deloitte’s pensions practice.

“The issue... is that the regulator has no mechanism for negative clearance,” he said, explaining that if a trustee negotiates mitigation for a change to their covenant, “they’ll say there’s nothing to clear because there isn’t detriment in the transaction”.

If measures such as strengthened information-gathering powers using further penalties for non-cooperation seem to have been largely dictated by the regulator, Kew said their implementation could actually increase pressure on the watchdog.

“The flipside is that if they fail to act or they act in the wrong way... then it will bring greater scrutiny on the regulator, so it’s a double-edged sword for them,” he said.

Consolidation section ‘short on solutions’

The white paper also targets consolidation in the DB sector, outlining the government’s plan to consult this year on proposals for a legislative framework, authorisation regime and accreditation to encourage merging of schemes.

Alastair Meeks, partner at law firm Pinsent Masons, noted that the section on consolidation is “long on analysis and short on solutions”.

Overall, “the white paper – it seems to me – is marked by its timidity and cautiousness”, Meeks said.

“I would have hoped that, in the area of consolidation, you might have seen evidence that a rather bigger push was going to be given rather sooner."

The DWP said it would be a good idea to have commercially run consolidation vehicles, and they would like to encourage them.

But “that’s not so much a proposal as effectively cheerleading from the side”, said Meeks.

In March 2017, the Pensions and Lifetime Savings Association called on the government to create a regulatory framework for the creation of so-called superfunds, which could be designed to absorb and replace existing schemes.

Despite the proposal receiving a muted response at the time, the DWP’s white paper said new consolidation vehicles could offer a more affordable option than insured buyout for many schemes.

It pointed out that with more DB schemes approaching maturity and their sponsoring employers seeking to secure members’ benefits or transfer risk, “there appears to be a space that new commercial consolidators could fill”.

Would the PPF cover commercial consolidators?

The paper noted that a key issue is whether a commercial consolidator would be eligible for the Pension Protection Fund in a failure scenario.

Meeks said: “It’s unavoidable that PPF coverage will need to be granted, or you’ll never persuade trustees… to transfer to another vehicle that’s not covered by the PPF.”

However, David Everett, partner at consultancy LCP, said that if commercial consolidators were allowed to go into the PPF, should they fail, “that represents [a] completely different type of risk to the PPF, so I’m not convinced that the government would want such consolidators to go into the PPF”.

Everett said he was surprised that the DWP let this debate continue.

Everett noted that there are numerous “tricky questions to be answered”, resulting in a white paper which is perhaps “more green than white”.

DWP and TPR to highlight benefits of consolidation

In addition to consulting on an accreditation regime to boost confidence and encourage existing forms of consolidation, the DWP will be working with the Pensions Regulator to raise awareness of the benefits of merging schemes.

Marian Elliott, managing director, integrated actuarial at consultancy Redington, welcomed this focus on facilitating consolidation and raising awareness of its advantages.

However, she said: “For this to translate effectively and see success, there also needs to be clear communication around what this could mean for schemes in terms of changes to trustee powers, relative funding and any potential impact to the covenant.”