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OPDU
Report 27 June 2010 - Annual Risk Conference Special Edition
Conversation with a Pensions Lawyer
Mark Grant, Partner, CMS Cameron McKenna LLP
Imagine the scene –
a top pensions lawyer has just got into his car after speaking at
an OPDU pensions conference but hasn’t realised that his lapel
microphone is still on.
With him in the car is a brand new client bowled over by his talk, who has just been appointed to be a pension scheme trustee.
The client wants to know everything he needs to survive in his
trustee role before being dropped off back at his office.
Here is what the microphone captured:
Client: So what is the most important thing I need to understand
as a new trustee?
Lawyer: There are lots of things you will need to
understand over time but if I had to pick one above all others it
would be knowing what your powers are. ‘Knowledge is power’
and knowledge of your powers is power. All schemes are
different and some are more different than others.
Client: So how do I work out what my powers are?
Lawyer: Given the importance of the matter, you’d think it would
be set out in one nice neat place. However, case law means that
trustees often need to look at lots of different documents to
understand the full scope of their powers and indeed the benefits
that they are obliged to pay to members. For example in a
recent case involving the IMG Pension Plan, various changes were
made to the scheme in 1992 that were in compliance with the scheme’s
amendment power contained in its most recent trust deed (from 1981)
but the High Court held that the restrictions in the amendment power
contained in the previous trust deed (from 1977) remained
relevant, and some changes purported to be made in 1992 were
therefore ineffective.
Also, where different scheme benefits have been communicated to
and accepted by members, this can give rise to contractual terms
that sometimes override what is in the scheme’s rules and more or
less generous benefits may arise as a result.
Client: So I need to be like Indiana Jones and excavate my way
through lots of old deeds to know my powers, and know everything
that has been communicated to members to know what their benefits
should be?
Lawyer: Or ask your friendly pensions lawyer and administrators
to do that work for you, at eminently reasonable hourly rates of
course. Either way, trust law as well as pensions legislation
expects trustees to know the terms of their trust so ignorance is
unlikely to be a good defence. Of course that is just where the fun
begins. Once you have collected the words that set out your powers,
you need to work out what those words mean and how to exercise the
powers in any situation facing you.
Client: Well as these trust deeds are drafted by clever
expensive lawyers surely it will be clear what they mean?
Lawyer: The ones I draft are, but we often inherit
words prepared many moons ago that could have alternative meanings.
For example, have a think about these beauties that the courts have
grappled with. They are restrictions in amendment powers:
“reducing any benefit then provided by or under the trust deed
for or in respect of any contributor or pensioner”
(Gas & Fuel Corporation of Victoria 1991)
“have the effect of… decreasing the pecuniary benefits secured to
or in respect of such Members under the Scheme”
(Lloyds Bank 1996)
“have the effect of reducing the value of benefits secured by
contributions already made”(IMG 2009)
The first two were held to mean that no future service (or past
service) related reductions to the current benefit structure could
be made. The third one meant that continuing salary linkage
had to be maintained for past service.
Client: Blimey, the first one sounds especially harsh.
Lawyer: Well, it was only an Australian case, but it was cited in
the other two English court cases without criticism and it ties in
with the respect the courts show to any member-friendly protections
in scheme amendment powers.
Client: So if I can work out where the words are and what
they appear to mean, can I exercise them however I want, as long as
I don’t harm the members?
Lawyer: You can only exercise a power for the purpose
that it was given.
Client: That sounds perfectly sensible. Where does it say what
the purpose is?
Lawyer: It doesn’t usually! We have to make an educated guess at
what the purpose is.You may also have to factor in a House of Lords
ruling from 1930 called Hole v Garnsey that some lawyers argue
restricts the trustees to amendments that were within the
‘reasonable expectations’ of the parties who signed up to
participate in the scheme. We are awaiting a ruling on how that case
should be treated in the context of pension scheme amendment powers.
It will be a real pain if we have to work out what parties to
pension schemes expected – potentially decades ago.
You also have to take into account all relevant factors and no
irrelevant factors, but that of course means you have to form a view
about what a court or the Pensions Ombudsman might consider to have
been relevant or irrelevant and it isn’t always obvious.
Client: This all sounds very difficult and scary. The pensions
manager says the scheme has an exoneration clause that means I can’t
be liable unless I act dishonestly. So can I take all of this
theoretical risk with a pinch of salt?
Lawyer: You can certainly take some comfort from an exoneration
clause but overriding pensions legislation says it can’t protect you
if you have breached your investment duties. So as we only
have a few minutes left before we get to your destination I’ll tell
you what you really must know to comply with those duties to avoid
losing your house.
Client: Thanks, that’s reassuring...
Lawyer: The starting point is that pensions legislation gives you
the same power to invest as if you owned the scheme assets
personally, but this is subject to certain statutory require-ments
and any restrictions in your scheme rules.
At the risk of boring you, the 12 statutory requirements are:
- get prior written advice about an investment’s suitability and
how compatible it is with the scheme’s statement of investment
principles (a ‘SIP’) and consider how often you should review that
advice
- act in the best interests of members, and if a conflict, in
members’ sole interests
- invest “in a manner calculated to ensure the security,
quality, liquidity and profitability of the portfolio as a whole”
- the scheme assets held to cover ‘technical provisions’ (ie up
the level needed to meet statutory funding level) must also be
invested “in a manner appropriate to the nature and duration of the
expected future retirement benefits payable”. In other words you
should have an eye on the scheme’s liability to pay benefits over
time when working out how to invest the assets that will be needed
to fund those benefit payments
- the assets must be predominantly invested in regulated markets
- you must “avoid excessive reliance on any particular asset,
issuer or group of undertakings and so as to avoid accumulations of
risk in the portfolio as a whole”
- only use derivatives to reduce risk or “facilitate efficient
portfolio management (including the reduction of cost or the
generation of additional capital or income with an acceptable level
of risk)” and avoid excessive risk exposure to one counterparty
- the scheme can’t borrow (unless for short term liquidity
reasons) or act as guarantor for someone else’s obligations
- investing in employer-related assets is severely limited, so I
advise you exercise extreme caution and get lots of advice before
ever going down that route
- you must exercise your invest-ment powers “with a view to
giving effect to the principles” contained in the SIP “so far as
reasonably practicable”
- you must consult the employers on preparation and revision of
the SIP, and consultation has to be a proper dialogue
- you must review the SIP if there is a change of investment
strategy and at least every 3 years.
If you comply with all of that and get plenty of investment
advice along the way then your house should be safe.
Client: But what if the trustees make the wrong judgement call
and the scheme, and maybe the members and employer, lose out badly
as a result?
Lawyer: The courts around the world have been remarkably
sympathetic where trustees have been undone by falling markets.
For example in a US case a family trust fund lost about 90% of its
value during the 1970’s oil crisis but the judge let the
trustee off and said:
“it is not inherently negligent for a trustee to retain stock in
a period of declining market values nor is there any magic
percentage of decline which, when reached, mandates sale”
(Stark v
US Trust Co of New York 1978)
Client: What if the employer needs a favour on the investment
front in times of trouble?
Lawyer: Again, the courts have been pretty supportive as long as
it is done for the right reasons ie for the long term benefit of the
scheme members. In Withers v Teachers Retirement System of New
York (1978), some $2.5 billion of pension assets were invested in
unmarketable and highly speculative New York City (the scheme
employer) bonds to save the City from bankruptcy. The court
held that this was acceptable because it was in the best interests
of beneficiaries, because if the City went bust there would be no
further funding for the scheme.
And it’s not just New York judges being helpful. In the UK (in
Evans v London Co-operative Society 1976) a pension scheme member
(who happened to be a milkman) com-plained about the trustees making
a loan to the employer at a prefer-entially low interest rate.
Although pension schemes are now banned from making loans it is
interesting to note the judge said something quite broad and
potentially useful in other situations:
“it would in my view be wrong to suppose that the trustees are
forbidden to give a parent concern financial accommodation on
preferential terms if the trustees consider that the security of the
employment of their members may otherwise be imperilled”
Client: Presumably the other exposure on the investment front is
just failing to get things done in a timely manner?
Lawyer: That’s true, I should have mentioned that. Particularly
where defined contribution benefits are concerned, delays in
executing member instructions or trustee decisions can lead to
losses and to the extent that is a breach of your investment duties
then you could be liable. So make sure your administrators work to
suitable timescales and get them to report any anticipated delays
immediately, and if they screw up then they should cover any member
losses.
Client: Well, we’re here outside my office now. Thanks very much
for the lift and the advice. Forewarned is forearmed and all that.
Lawyer: No problem at all. And the invoice will be with you
tomorrow.
Mark Grant
Partner
Pensions Ombudsman Unit
CMS Cameron McKenna
020 7367 3000
msg@cmck.com
www.law-now.com
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