So trust me

Being a trustee of a company pension plan has probably always been an onerous thing. However, harsh economic conditions and the various statutory tweaks sketched in vague form by the government greatly increase the likelihood of conflict between trustees and the company.

As Orlando Harvey-Wood, a partner and director of Deloitte Total Reward and Benefit observes, it is not easy for pension fund advisors or trustees to have to live with an awful lot of consultation and drafting. “There is a real absence right now of simple statements as to what the new position is likely to be,” he says.

This uncertainty is exacerbating the likelihood of situations occurring where the trustees and the company will have different positions. The problem is in the complexity of events involving the poor performance of the equity markets over the past three years and the introduction of the Minimum Funding Requirement (MFR).

Taken together, these things have highlighted the extent to which many final salary defined benefit schemes are underfunded. In a number of instances, the funding deficit has been larger than the market value of the company concerned, and there have been some high-profile cases of companies going into liquidation, dragged down by the scale of the deficit.

Trustees can, in fact, find themselves faced with a decision as to whether or not it is in the best interest of the members to put the company into the hands of the receivers. Putting colleagues out of work today to give them a slightly better pension in 20 years, at today’s market valuation of the equities, is not a decision that many would relish having to make.

As Harvey-Wood observes, there have been a number of court judgments recently that give trustees the right to waive some or all of the fund shortfall if they think the continuation of the business would be more in the interests of all the scheme’s beneficiaries. For example, the company could agree to increased contributions over a number of years. Alternatively, or additionally, the trustees could take the view that equity markets would improve over time and the current funding deficit would melt away.

While taking these tremendously difficult decisions, trustees will also have to bear in mind what their own position will be if things turn out badly. Some disgruntled members could decide to litigate against them for supposed negligence, and then they would stand liable in their own person for any shortfall, putting their house, property and whatever private means they might have in jeopardy.

The finance director’s position, where he or she is also a scheme trustee, is even more complicated, since they will have detailed knowledge of the company’s future plans and likely capacity, or lack of capacity, to make up the shortfall. “FDs who act as trustees can really get conflicted over questions of whether to trigger some sort of statutory debt action on the employer. However, they generally have a large commitment to, and stake in, the pension scheme. They also have superior numeracy and analytical skills, and therefore have a lot to offer trustees. So it is not easy for them to simply resign their trustee position,” Harvey-Wood says. His advice to FDs is to think about using two pension fund advisors – one for when they wear their finance director hat and another when they wear their trustee hat.

Kenneth Donaldson, director and actuary with specialist pension and benefits consultancy Hazell Carr, argues that the FD’s conflict as trustee has always been there, but that it will get sharper and sharper in future years. He points out that although the government signalled its intention in the recent pensions green paper to scrap the MFR, what it plans to replace it with, paradoxically, will intensify the dilemmas facing trustees and FDs.

The current proposal is for what are called scheme-specific funding arrangements to be set in each instance by the scheme actuary. Donaldson argues that the effect of this alteration will be to make actuaries look to cover their own backs against potential litigation. “I would be astonished if this does not result in actuaries moving in the direction of wanting every scheme to be fully funded,” he says.

By fully funded he means having sufficient funds to meet current insurance company annuity rates for all members. This is presently the condition that solvent employers wanting to close their final salary schemes have to meet. It is regarded as prohibitively expensive.

So if scrapping the MFR means it is replaced by a set of arrangements that massively increase funding deficits because the new measures set by worried actuaries are so much sterner, one can expect matters to get worse as a result of the government’s proposed reforms. “The law of unintended consequences seems to be working to perfection here,” he concludes.