Court of Appeal confirms PPF compensation cap is unlawful

In an appeal brought by the Secretary of State for Work & Pensions and The Board of the Pension Protection Fund (PPF), the Court of Appeal has endorsed the PPF's proposed approach to implementing the Court of Justice of the European Union’s (CJEU’s) decision in Hampshire v Board of the PPF, overturning the decision of the High Court.

However, the Court of Appeal upheld the decision of Mr Justice Lewis who found that the imposition of the PPF compensation cap (which is applied to most members that fall below their scheme’s "normal pension age" (NPA) on the date a PPF assessment period begins) constitutes unlawful discrimination on grounds of age, meaning the cap should be disapplied.

It is not yet known whether the Secretary of State or the representative beneficiaries intend to appeal any aspects of the Court of Appeal's judgment. Should the Secretary of State decide not to appeal against the decision regarding the unlawfulness of the compensation cap, the PPF will need to take action to adjust the compensation payable to affected members and survivors and to make good historic underpayments. This decision may also have implications for schemes that are in, have previously been in or that enter a PPF assessment period.

PPF compensation

When a scheme is transferred into the PPF, the PPF is obliged to pay compensation to the scheme’s members equal to:

• 100% of the pension payable to members who have attained their scheme’s NPA as at the assessment date and to members who are below their scheme’s NPA on that date but who have retired early on grounds of ill-health, and
• 90% of the pension payable to members who are below their scheme’s NPA as at the assessment date.

Compensation is also payable to the spouse and/or dependants of a member following the member's death.

Compensation cap

The compensation payable to members who are below NPA (and who are not in receipt of an ill-health pension) is also subject to a compensation cap. The cap is increased annually.

From 1 April 2021, the cap is equal to £41,461 at age 65 for a member who has 20 years or less pensionable service in their scheme. When the 90% compensation percentage is applied to the cap it means that the maximum amount that a member with 20 years or less pensionable service could expect to receive from the PPF is £37,314 per year (being 90% of £41,461).

In 2017, amendments were made to the relevant legislation which mean that the compensation cap is increased for individuals with more than 20 years pensionable service by 3% for each full year of pensionable service over 20 in their scheme.

Implementing Hampshire

In 2018, the CJEU ruled in Hampshire v Board of the Pension Protection Fund that Article 8 of the Insolvency Directive requires member states to implement measures to ensure that employees receive at least 50% of the value of any pensions they have accrued under an occupational pension scheme if their employer becomes insolvent. In the UK, this meant that the PPF was required to ensure this minimum threshold was met in respect of every member who receives PPF compensation. However, the CJEU did not specify precisely how this should be done.

In order to comply with the judgement in Hampshire, the PPF decided that it would calculate the actuarial value of the compensation payable to a member from the PPF and compare this with the actuarial value of the pension to which the member would have been entitled under their former scheme at the date of the onset of insolvency. If the actuarial value of the compensation due from the PPF was found to be less than 50% of the actuarial value of the pension to which a member would have been entitled, the PPF would pay an additional amount of compensation to that member to make up the difference, referred to as an “uplift”. However, if the actuarial value of the PPF compensation was equal to or greater than 50% no uplift would be payable.

Legal challenge

Mr Hughes and 23 other members of the PPF, together with the pilots union, BALPA, challenged the way in which the PPF proposed to implement the Hampshire judgment on the basis that, under the PPF’s methodology, it was still possible for a member to receive compensation which was less than 50% of the amount of the pension that they would have received from their former pension scheme. This is because the PPF’s methodology involves a one-off comparison which is carried out using actuarial assumptions. To the extent that the assumptions used turn out to be incorrect, for example, because a member lives longer than expected or future inflation is higher than expected, the amount of compensation the member actually receives from the PPF may still turn out to be less than 50% of the pension which they would otherwise have received under their former scheme.

As well as challenging the PPF’s proposed methodology, the claimants also challenged the lawfulness of the PPF compensation cap by way of judicial review.

Facts

Mr Hughes was a member of the HLG Scheme and he was under the scheme’s NPA at the start of the scheme’s assessment period. His pension was £66,245 on that date but as a result of the compensation cap he was only entitled to PPF compensation equal to around £17,000.

Mr Hampshire was a member of the T&N Scheme and he was also under the scheme’s NPA when it transferred into the PPF. His annual pension at the start of the assessment period was £60,234, but as a result of the compensation cap his PPF compensation was limited to £22,012 and he only received 90% of this.

Some of the claimants were pilots and members of the BMI or Monarch Schemes who also experienced significant reductions in their pension benefits when their scheme entered the PPF. For example, Captain Parson’s pension under the BMI Scheme would have been £79,069 however he was only entitled to £24,881 from the PPF. In addition, a survivor under the BMI Scheme would have been entitled to 2/3rds of the deceased member’s pension and some survivors claimed they received less than 50% of this by way of PPF compensation.

High Court's decision

In June 2020, Lewis J, sitting in the High Court, held that the PPF’s proposed methodology for implementing the CJEU’s decision in Hampshire was inadequate.

Lewis J also held that the imposition of the PPF compensation cap constitutes unlawful discrimination on grounds of age, meaning the cap should be disapplied.

Appeal

The Board of the PPF appealed against the High Court's decision relating to the proposed methodology for implementing the CJEU's decision in Hampshire. The Secretary of State appealed against the declaration that the compensation cap is unlawful.

Hampshire methodology

The appeal relating to the PPF's plans for implementing the Hampshire ruling consisted of two parts:

• Does Article 8 impose an obligation to provide by way of pension protection, 50% of the actual value, over time, of the benefits which a member would have received under the pension scheme to which they belonged rather than 50% of the actuarial value of those benefits and does that require the use of a Lifetime Payments Test?
• Does Article 8 similarly require payment of an amount equivalent to no less than 50% of the benefits which the survivor of a member would have received under the relevant pension scheme?

Having considered Article 8 and the CJEU's case law relating to its interpretation, the Court of Appeal overturned the decision of Lewis J and upheld the legitimacy of the actuarial value test which the PPF is proposing to use to ensure that members receive at least 50% of the value of the benefits to which they were entitled under their former scheme. In doing so, the Court held that Article 8 protects the "value" of an individual's interest in their pension rights under their former scheme. It also found that the way in which the CJEU has approached the interpretation of Article 8 does not lead to the conclusion that the obligation is to provide at least 50% of the “actual value, over time, of the benefits” as opposed to their “actuarially predicted value” as Lewis J had held.

The Court of Appeal also overturned Lewis J's decision relating to the calculation of survivor's benefits and held, once again, that the PPF's proposed approach was compatible with the protection afforded by Article 8.

In considering the rights of survivors, it is important to note that the Court of Appeal held that a survivor does have a directly effective right under Article 8 at the point they become identifiable (i.e. once a former member of a scheme, who was receiving compensation from the PPF has died).

Compensation cap

In relation to the compensation cap, the Court of Appeal reviewed the decision of Lewis J and the reasons he gave for finding that the cap is unlawful. The Court also considered the justifications for the cap which were put forward by the Secretary of State, the principal two being:

• combating moral hazard, and
• seeking to ensure that the costs of the PPF would not be such as to deter employers from continuing to provide defined benefit occupational pension schemes.

Implications

Assuming this judgment is not appealed or that, on any appeal, the Supreme Court upholds the conclusions reached by the Court of Appeal, this jugment means that:

• the PPF can press ahead with its plans to implement the Hampshire ruling, but
• it would also need to adjust the compensation payable in future to members and survivors who have seen their compensation reduced as a result of the compensation cap, and
• it would need to make good historic underpayments (although it is not yet clear how far back the PPF will need to go).

Comment

While the PPF will welcome the Court of Appeal's approval of its plans to implement the Hampshire judgment, the fact that the Court has upheld the High Court's decision regarding the unlawfulness of the compensation cap will no doubt cause some headaches as the implications of this are worked through.

According to the judgment, the removal of the cap will benefit around 550 current PPF members and survivors and it will add around 1% to the PPF's liabilities. This may feed through into a slight increase in the PPF levy.

However, this outcome remains subject to any appeal by the Secretary of State or the representative PPF members and survivors. We would expect there to be clarity on whether an appeal will be permitted by later this summer.

If you would like to discuss the implications of this judgment for your scheme or organisation, please speak to your usual adviser or contact:

 

 

 

 

 

 

 

 

 

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