In these times of record-low gilt yields and almost record longevity, despite recent encouraging investment performance, pension scheme deficits can become a pill which employers can struggle to swallow.
Many well-meaning employers set up schemes providing defined benefit pensions in the 1960s and 1970s in good faith. Over time it became clear that the members of those schemes were going to receive far greater benefits than originally intended. Layer upon layer of legislation added member protections, statutory revaluation in deferment and pension increases.
The issue is that in many cases the damage has been done by the time the PPF becomes involved
Together with advancements in medicine and the exit from the European exchange rate mechanism in 1992, and the resultant targeting of a low inflationary environment, what was once a 12-15 per cent employer contribution rate has become a 40-50 per cent contribution rate to provide the same benefit.
Most sponsors have ceased future accrual, but the damage has been done. Multi-million pound deficits need to be supported often by employers in declining industries.
So what solutions are available?
In the most financially challenged companies, given the value that can dissipate from a business via a sale out of administration, a pre-pack can be a legitimate approach to mitigating these insurmountable pension funding issues.
The term ‘pre-pack’, as far as the press and perhaps therefore the general public are concerned, generally brings visions of shady dealings. It conjures up visions of directors running off with the value of the company and dumping the creditors. Those creditors include the pension scheme trustees and therefore, ultimately, the members. The shop floor workers suffer while the directors sail off into the sunset.
The Financial Times reported that two in three of the 148 pre-pack schemes that entered the Pension Protection Fund related to sales to existing owners or directors.
While perhaps not headline friendly, powers to protect members’ benefits do exist and are used by the PPF and the Pensions Regulator. The PPF issued guidance in 2015 setting out broadly what it expects in terms of early engagement and transparency. It has the power to appoint a liquidator if it believes there is any lack of due process.
The difficulty with any such guidance is that it must be drafted to cover a range of scenarios. It therefore cannot be too prescriptive.
The issue is that in many cases the damage has been done by the time the PPF becomes involved. There is no statutory definition of the “early” stage at which the PPF must be notified. There is no defined path as to exactly what information should be required to evidence the inevitability of insolvency. Further, there is no requirement for independent scrutiny of whether the insolvency is inevitable.
A pre-pack can be a useful tool if the motivation behind its use is correct – to maximise the benefits to all creditors which includes the pension fund. Each case is unique and the PPF considers cases on their merits.
While some tinkering around the edges – for example, that requirement for independent verification of the inevitability of insolvency – would be welcomed, there is a danger that tweaking the system too much removes flexibility within which value can be achieved.
Adrian Kennett is a director at Dalriada Trustees
