New and evolving pension risks in 2021

2020 was undoubtedly an unprecedented year, dominated of course by the impact of Covid-19 and here in the UK, by the preparations for Brexit. The year may (finally) be over, however, these themes are likely to continue to dominate the agenda in 2021. Nevertheless, with vaccines being rolled out and a Brexit deal agreed, there is hope that our economies, markets and societies will soon return to something more like ‘normal’ once again.

Meanwhile, pension litigators have been busy over the last 12 months, with key judgments handed down in significant cases including Hughes and others v the Board of the Pension Protection Fund (in which the High Court held that the PPF compensation cap was unlawful), Safeway Limited v Andrew Newton and Safeway Pension Trustees Limited (where the Court of Appeal found that the Safeway Pension Scheme was able to retrospectively level down its scheme’s normal pension age, albeit only to a limited extent) and, more recently, the landmark High Court decision in the 2nd Lloyds Bank judgment, in which Morgan J held that trustees of defined benefit (DB) schemes that provide Guaranteed Minimum Pensions (GMPs) in respect of the period 17 May 1990 and 5 April 1997 are required to revisit and, where necessary, top-up historic cash equivalent transfer values that have been calculated on an unequalised basis.

Given the ongoing health, political and economic uncertainties, 2021 looks set to be an equally challenging year as existing risks evolve and new ones emerge. Here’s our insights on what to be on guard for.

Transfer scams on the rise

The Covid-19 pandemic continues to have an impact on the finances of many individuals, which may see an increasing number of members seeking to transfer their pension benefits in an attempt to access cash quickly. This could be further exacerbated as the range of government support schemes wind down and with the prospect of rising unemployment as we move through 2021. Sadly, this could create fertile ground for pension scammers to target the unwary.

Data published by XPS found that following the first lockdown DB transfer values increased to a record high and the number of people requesting transfers rebounded strongly following a dip during lockdown. LCP has also identified a dip in transfer activity linked to lockdowns. However, it has recently warned schemes to prepare for a “tsunami of requests” in DB transfers in Q2 of 2021, when the current restrictions are hopefully eased.

Alongside the opportunities created by the pandemic, scammers are developing more sophisticated ways to entice members. The Pensions Regulator recently updated its scam guidance to reflect the new tactics that scammers are using including making contact through social media and using friends and family to reach groups of people. In response to this evolving threat, the Regulator has urged industry stakeholders to subscribe to its pledge to combat pension scams.

The Pensions Ombudsman’s Corporate Plan 2020-2021 and Annual Report for 2019-20 make clear that the Ombudsman expects to see an increase in the number of complaints relating to scam activity in the next 12 months. Indeed, transfers remain the most common complaints in 2019 and represented a significantly larger percentage of complaints at 23.6%, compared to 7.1% in 2018/2019.

MPs have been pushing the Government to take more action to tackle the threat posed by pension scams. In response, Guy Opperman has confirmed that regulations will be introduced once the Pension Schemes Bill receives Royal Assent to give more power for trustees and providers to refuse to make a transfer where certain “red flags” are identified, including:

1. the receiving scheme or parties involved in the transfer not having the required FCA permissions
2. the member having been contacted via social media, email or by cold calling or being offered a free pension review or early access to cash
3. the member being pressured to transfer quickly, or
4. the receiving scheme not being registered with HMRC.

Trustees and administrators clearly need to stay alive to this ongoing threat and they will need to consider how to respond to the new statutory requirements which will be introduced shortly. Trustees and administrators who haven’t already done so should also review the Regulator’s expectations of schemes that sign up to its pension scams pledge as it is possible that these expectations will become industry norms and that schemes will be expected to comply with them (by the Pensions Ombudsman and the Courts) whether they sign-up to the pledge or not.

Claims relating to Covid-19 begin to surface

As well as anticipating a rise in complaints related to pension scams, the Ombudsman is also expecting to receive numerous complaints related to Covid-19 in the coming year. These may arise, for example, as a result of:

• delays in providing information and carrying out transfers due to disruption caused by the pandemic
• increases in other maladministration complaints, where schemes and administrators struggle to process benefits or member requests efficiently
• applications for ill health early retirement being refused or delayed and other difficulties in accessing benefits, and
• claims regarding the payment of contributions, salary sacrifice and death cover where employees have been furloughed under the Coronavirus Job Retention Scheme.

To mitigate these risks, trustees should:

• make sure they are keeping full records of their decisions and the reasons for these when they impact members, in case they need to justify those decisions to the member or the Ombudsman in future
• discuss any impact on scheme services with their administrator and prioritise critical tasks, and
• inform members of any disruption to services or temporary changes to service levels, the steps taken to restore normal services and the timescales involved.

Trustees should also continue to ensure their scheme has an effective internal disputes resolution procedure in place to deal with any increase in complaints.

Climate related litigation hots up

In our predictions last year, we highlighted the growing risk of legal challenges relating to environmental, social and governance (ESG) issues, which was demonstrated by the legal challenge brought by a member of the Retail Employees Superannuation Trust (REST) in Australia against the Trust for failures in relation to the Trust’s climate-related disclosures.

The matter has now been settled with REST releasing a statement outlining several steps that it is taking to address ESG risks, including measuring, monitoring and reporting outcomes on its climate-related progress in line with the recommendations of the Task Force on Climate Related Financial Disclosures and undertaking scenario analysis. Although the case did not end up in Court, the member seems to have secured the change in behaviour that he wanted. This may encourage other members (perhaps supported by civil society groups) to take similar action where schemes are not demonstrating that they are taking ESG risks and, in particular, climate-related risks seriously.

Such action is consistent with the Government’s plans to ensure that pension schemes are effectively managing climate-related risks. As part of this, the Pension Schemes Bill will give the Secretary of State very broad regulation making powers to, amongst other things, require trustees to:

• set a strategy for managing their scheme’s exposure to climate risks
• set targets relating to their scheme’s exposure to climate risk
• measure performance against those targets, and
• prepare documents and publish prescribed information relating to the effects of climate change on the scheme.

The Government has made clear that it intends to use these powers to require larger schemes to set and measure their performance against specific climate-related metrics and targets, to conduct scenario analysis and to disclose much more detailed information on the management of climate-related risks. This is in addition to the requirement for trustees of money purchase schemes, which is already in force, to confirm how they have implemented their investment policies on taking account of financially material ESG risks.

Regulators, the media and civil society groups are likely to take a keen interest in the output from schemes to assess how seriously these obligations are being taken.

New criminal offences and regulatory powers

It is also possible that we could see more activity from the Regulator in the coming year, as scheme sponsors battle to overcome the impact of Covid-19. The Regulator is also due to be granted new and enhanced powers by the Autumn, including the power to enforce new criminal offences and to impose civil fines of up to £1 million on directors, lenders, investors, advisers or other persons who take action which is, broadly speaking, materially detrimental to a DB scheme.

Following concerns raised by MPs and peers, the Pensions Minister, has confirmed that these new powers will not be capable of being used retrospectively. However, once they are in force they will give the Regulator much greater scope to sanction errant directors who disregard the interests of their DB scheme. We will have to wait and see whether the Regulator shows a greater willingness to use these powers than it has shown with its existing powers. In any event, the threat posed by these new powers is likely to make decision-making by directors and other parties involved in trying to rescue and restructure distressed scheme sponsors that much harder.

As such, the introduction of these new powers is likely to be a double edged sword for the Regulator who will be under pressure from some quarters to make use of these new powers (particularly when the next high profile corporate failure occurs) at a time when, if it is to support the economic recovery and the sustainable growth of scheme sponsors, it will need to show pragmatism, creativity and flexibility, with many businesses being forced to restructure and to make difficult decisions due to the challenges that they face.

Alongside the new criminal and civil sanctions, the Pension Regulator’s information gathering powers are also due to be strengthened with the introduction of a new interview power and an extended power to inspect premises. The Regulator has also recently been empowered to request authorisation to obtain 'communications data' (i.e. information about the time/date/method by which a communication (including a telephone call or email) was sent) where it is investigating potential criminal offences.

Employer covenant worsens

Most insolvency practitioners agree that we are in the calm before the economic storm that is likely to hit in 2021.

The Corporate Governance and Insolvency Act 2020 introduced some of the most far reaching reforms to UK insolvency law in over 30 years. These changes could severely reduce the protection afforded to DB schemes where a corporate sponsor is in financial distress by:

• allowing companies to enter a pre-insolvency moratorium and preventing DB schemes (and most other pre-moratorium creditors) from taking steps to recover existing debts or enforce existing security for up to a year while the moratorium remains in force
• reducing the amount that DB schemes and the PPF stand to recover on a corporate insolvency where a company makes use of the new moratorium before it enters into insolvent liquidation or administration
• undermining the protection afforded by floating charges (which many schemes currently have the benefit of)
• introducing a new restructuring process which could remove any say that the PPF would otherwise have over the terms of any restructuring plan that may be drawn up, and
• severely limiting the scope for schemes (and other creditors) to issue statutory demands and winding-up petitions (which has now been extended to 31 March 2021) making it even more difficult than it already is for schemes to recover unpaid contributions from distressed sponsors. By the time action can be taken, it may be too late.

To date the new restructuring plan and moratorium have seen limited use and it may be that insolvency practitioners will be reluctant to recommend their use where they would prejudicially impact a DB scheme, in light of the new criminal offences and sanctions contained in the Pension Schemes Bill. However, the new insolvency regime is certain to undergo some rigorous stress testing during the course of this year.

The Regulator has recognised the challenges facing employer covenants. In November, it published guidance for trustees to protect their scheme when their sponsor faces financial distress. The guidance reminds trustees that a sponsor’s covenant can decline rapidly and that, once a sponsor has become distressed, it is usually too late for action to be taken to improve a scheme’s position. Therefore, it urges trustees to ensure they put robust protections for their scheme in place at an early stage, as other stakeholders, such as lenders and other creditors, may otherwise be in a better position to exert control over and extract value from a distressed sponsor, potentially to the detriment of the scheme.

Cheers to 2021?

Although 2020 may be over, it is likely the dominant themes will continue to be felt in 2021 and some may mutate into new and emerging threats to the financial health of UK pension schemes and their members.

Recent posts

Covid-19: round-up of recent changes concerning CJRS claims and lockdown rules (UK)

Pension Schemes Bill will not have retrospective effect and new DB funding Code delayed

Climate-related disclosures for issuers: FCA publishes final rules

Perspectives: Diversity in Pensions Ep1 – In conversation with Dana Grey, PPF