From Barber to buyout can be a tricky journey

In the current environment of rising yields, many pension schemes are finding themselves in the fortunate position where a bulk annuity transaction looks to be affordable in the short term, rather than being a number of years (and de-risking triggers) away. Approaching the bulk annuity market requires a level of preparation, but some of the advance steps – such as the collection of marital information and even a certain level of asset re-structuring – can be completed quite quickly. The position becomes significantly more complicated if the benefit preparation work reveals an issue with how the scheme has historically approached the equalisation of members’ retirement ages. Unfortunately this is quite a common issue. 

The problem

When the Barber judgement became effective from 17 May 1990, scheme trustees took various approaches in respect of what needed to be done to make their scheme compliant with legislation, with the majority of schemes levelling retirement ages up and moving to a Normal Retirement Age (NRA) of 65 for both male and female members. Implementing changes took time, which meant opening a “Barber window” so that benefits earned between 17 May 1990 and the date the amendment became effective had an attaching NRA of 60 for both sexes.

A problem arises when the change in benefit was implemented via a Trustee resolution and member announcement, but the Rules explicitly say that they can only be amended via a Deed, and that the change cannot be implemented retrospectively, which is often the case. This is an area that requires detailed legal analysis and advice, as the specific wording in a scheme’s Rules plus the interaction with the process followed, the governing law for the scheme (e.g. English or Scottish law) and the communication issued to members can result in different conclusions for different schemes. However, it is quite common for lawyers to conclude that the change was only legally implemented from the date a Deed was executed documenting the change in NRA – for some schemes this is a period of a few months, but it can sometimes be years or even decades (I am aware of a case where the window was extended from 1992 to 2009).

For some schemes, the position is further complicated if the intention to implement the change in NRA is documented, for example, in minutes or correspondence with the sponsor, but the signed document cannot be located. Any uncertainty around the process which was followed leaves trustees with little choice other than taking the most conservative approach.

Why does this matter?

Discovering a scheme has a significant equalisation issue can be painful:

• Benefits for pensioner members need to be checked and rectified where relevant, which will include the calculation and payment of arrears. This can be a substantial (and costly) project, putting further strain on ever-stretched admin resources (although a third party provider could be appointed to do this work).
• There will be some impact on the scheme funding position, although the exact quantum of this will remain uncertain until the benefit correction work has been completed. The impact can be substantial where the extension to the Barber window is long, and it may affect or even invalidate some of the scheme’s ongoing plans, e.g. around de-risking or the timing of an approach to the bulk annuity market.
• To the extent that the issue has been identified, and is being dealt with, an approach to the bulk annuity market does not have to be delayed necessarily if the scheme is otherwise well prepared and able to proceed with a transaction. The issue would have to be communicated to insurers as part of the broking process, and will be taken into account by them alongside other triage criteria; in a very busy market, where schemes are competing for insurer attention, it is more likely to be seen as a black mark. Insurers will want comfort that the approach the trustees are following to resolve the matter is backed up by legal advice, and consistent with it.
• Failure to consider or resolve this type of issue would mean that trustees are unable to give the data and benefit warranties in a standard bulk annuity contract; so anything that has not been previously discussed with the insurer would come up at this point.

What should trustees do?

The comments above emphasise the impact of historical equalisation issues on bulk annuity transactions as this is a common time for such issues to be identified. More fundamentally though, trustees have a fiduciary duty to pay the correct benefits to members, as per the scheme Rules, and this won’t be the case if benefits have been calculated on the wrong assumptions. I would urge all schemes where there is any doubt on the equalisation approach to review this aspect as a matter of urgency; for schemes with an endgame of buyout this could be done alongside the preparation of a broking benefit specification, gaining some efficiencies in the advice received along the way.