Trustee Risk:
A Lawyers' Perspective

"A trust is an office necessary in the concerns between man and man…. and, if faithfully discharged, attended with no small degree of trouble and anxiety"
(Knight, the Earl of Plymouth (1747)).

I suspect that a wry smile will pass across the lips of many pension fund trustees who read these words. Trusteeship is an onerous task but, as they say, someone has to do it. So, by acting as a trustee, you are doing the right thing. But why should you run an unreasonable risk for doing it? And even if you are not liable personally for potential losses to the scheme, depending on how those losses arise, what risks does the scheme itself run as a result of your actions (or inactions)?

It is a matter of trite law, which most trustees will encounter on basic trustee training courses, that trustees are bound to use “such care and diligence in the management of the trust property as men of ordinary prudence and vigilance would use in the management of their own affairs”. But, is this really a true representation of the position now? The short answer is a qualified “no” - expectations of trustees have changed - but the position in practice is much more complex.

What follows are the views of a pension lawyer of many years’ experience, who has seen some fairly substantial changes in the legal climate during the course of his career. It demonstrates why trustees have every reason to feel that they and the schemes that they govern have some very material legal exposures which need to be addressed.

As a pension lawyer, I am much more conscious now of claims being made against pension schemes. They are conducted through the courts or the Pensions Ombudsman. They may, for example, take the form of applications for directions, claims for rectification or claims arising from negligence or maladministration. Trustees must be conscious of the potential for civil or criminal penalties being imposed by the Pensions Regulator under legislation.

Trustees must also be aware of the potential for personal liability (which will not necessarily cease upon retirement as a trustee). They must manage appropriately their almost inevitable conflicts of interest. They may be faced with the potential cost of defending claims against the scheme, whether successfully or unsuccessfully. Furthermore, the scheme itself may be liable to meet claims even if (as is usually the case) the individual trustees are not themselves personally liable.

A question needs to be asked. Why is it that an increasing number of contentious issues appears to be arising in connection with pension schemes? Is it, for example, that we live in a claims culture or simply a more professional culture in which higher standards are expected? In general, I would say that both elements are involved, together with the increasing complexity of the issues with which trustees have to contend.

Some of the major current legal issues are indeed contentious and apply to many pension schemes. In my own practice, I see evidence of many of the substantial issues which have come before the courts in recent years, notably:

Defective attempts to equalise
benefits for sex discrimination purposes in the aftermath of Barber (1990): Smith v Avdel (1994) highlighted the problems of making retrospective amendments in the sphere of discrimination and Foster Wheeler (2009) has illustrated the difficulty of administering schemes in the light of changes made during the so-called Barber window in the early part of the 1990s.
Defective conversions from
defined benefit to defined contribution: notably the 2010 case of German v HR Trustees (the IMG case) in which historical restrictions on the scope of the power of amendment had been overlooked.
Defective attempts to amend
scheme rules: notably the need to use specified methods, such as a deed, as in the case of BesTrustees v Stuart (2001), and the need to meet the requirement for actuarial certification, as specified in the power of amendment considered in Walker Morris (2009).

Particular exposures also arise in the context of investment. As noted below, it is not possible for a scheme’s rules to excuse a trustee from personal liability in respect of the discharge of his investment duties. At the same time, investment issues for pension schemes have become much more complex and diverse. The available asset classes have become considerably extended, investment strategies have developed in complexity and trustees may need to take some quite intricate decisions in relation to matters such as hedges, swaps and buy-ins.

The trustees may also be subject to individual member complaints. Many of them arise as a result of inaccurate benefit statements or inaccurate information provided to members. On occasion, this may lead to a benefit having to be provided when the rules themselves do not require it (Catchpole v Alitalia (2010)). In particular, in the context of a defined contribution scheme, there is “nowhere to hide”. Inaccuracies will not necessarily all “come out in the wash” in the way that they might do by being hidden in the funding of a defined benefit scheme. Members see quite readily the consequence of delays in crediting contributions or in implementing switches in investments. Furthermore, an inappropriate range of investment choices may itself give rise to potential liability. It is of course relatively straightforward for a member to bring such a claim before the Pensions Ombudsman.

The problem for trustees, in many cases, is where the goalposts appear to have moved after the event. On occasion, the decisions of the courts have overturned established industry practice. As a result, practice in, say, the 1990s is now viewed with 20:20 (or 2011) vision - hindsight being, of course, a wonderful thing.

This problem is exemplified by the cases and changes in practice in relation to the amendment of pension schemes. Many years ago, it was the conventional practice to establish pension schemes by way of an interim deed. This procedure would enable the detail to be completed later, in the form of a definitive trust deed and rules. This procedure, in itself, has not been challenged. However, it was part of an overall practice of announcing benefit changes to members and then sweeping up those changes in the next edition of the rules, often some time after the change had become effective. The problem with this approach, however, is that a combination of new legislation (notably Section 67 Pensions Act 1995) and court determinations has cast severe doubt on aspects of that practice. Clearly, Section 67 raises difficulties in changing accrued benefits. BesTrustees, noted above, cast doubt on retrospective amendments, even if they have been the subject of prior announcements to members. This issue arises in particular in the context of retrospective attempts to equalise benefits and is causing many schemes serious concern.

The problem is not simply that the law either changes or appears to change. Over a period of time, practitioners (particularly the younger ones) begin to wonder how industry practice could ever have been the way it was. I would not seek to defend a practice merely because it was an accepted convention. However, perceived changes in the law - even those which may be intended to promote certainty - are apt instead to create uncertainty and concern about potential liabilities.

Of course, many of these industry practices have long since been eliminated. Does this mean that potential claims may be time-barred for limitation purposes? In some cases, the answer is “yes”. However, in the context of pension schemes, limitation periods of six years are not necessarily the norm - in some cases the limitation period may be 12 or even 15 years. Furthermore, the clock may not start running until the facts upon which a claim may be based have been identified or, for example, from the date of a member’s retirement (as in the case of Barclays Bank v Kapur (1991)). Indeed, the Pensions Ombudsman is not subject to such considerations. In general, his jurisdiction is limited to claims arising in the last three years, but there is no bar on the Ombudsman taking a claim relating to a much earlier period (as has indeed been the case in several instances). Finally, if all else fails, the wily litigator may attempt to identify a subsequent failure to remedy a deficiency, which re-starts the clock from the date of that subsequent failure. So it may be very difficult to draw a firm line under a contentious issue purely on limitation grounds.

From a personal perspective, trustees will naturally seek to rely on exclusion of liability provisions and indemnities. In most cases, a well drafted exclusion provision will be effective. However, there are some notable limits. Section 33 Pensions Act 1995 specifically excludes provisions which purport to excuse trustees from liability in respect of the negligent discharge of their investment duties. Cases in the area of private trusts have established, in some circumstances, that a trustee may not be excused from liability if he is “reckless” (Armitage v Nurse (1997)) or, perhaps, if he is “grossly negligent” (the Scottish case of Knox v Mackinnon (1888)). Furthermore, the trustee cannot reimburse himself from the fund if the Pensions Regulator imposes a penalty on him. The court itself may excuse a trustee from liability under its powers under Section 61 Trustee Act 1925, but only if the trustee has acted honestly and reasonably and should fairly be excused from liability. Of course, most scheme rules also provide indemnification from the employer, but this is of course dependent upon there being a solvent employer available to do this. Finally, even if the trustee is not personally liable, this will not of course necessarily save the scheme from suffering a loss.

These concerns tend to be amplified when a scheme is in decline. Trustees may feel isolated or divorced from the employer, which may well see its closed defined benefit pension scheme as yesterday’s problem. So trustees may find relatively little support - or even continuing defined benefit knowledge - within the employer, particularly in the case of smaller or medium sized companies.

It is, of course, easy to say that these problems generally arise only if trustees do indeed act negligently. They need to take advice. They need to satisfy the requirements for trustee knowledge and understanding - and much support is available through trustee training and from the Pensions Regulator. All of this helps considerably. However, it must be recognised that the role of the trustee is a demanding role. The expectations of trustees have increased and show no sign of abating. It is a little wonder that a prudent trustee will want to consider carefully whether, for example, additional insurance protections are needed.

Robert West
Head of the Pensions Department
Baker & McKenzie LLP
robert.west@bakermckenzie.com
www.bakermckenzie.com