Pensions Regulator (Contribution Notices) (Sum Specified following Transfer) Regulations 2010

Lord McKenzie of Luton Excerpts

Wednesday 21st July 2010 Grand Committee

[The Parliamentary Under-Secretary of State, Department for Work and Pensions (Lord Freud)]

My Lords, the Government are committed to reinvigorating pensions, and a robust protection regime for company pensions is essential so that people have the confidence to save. Noble Lords will be aware that Parliament legislated, with cross-party support, for a new regime. The Pensions Act 2004 created two new bodies, the Pension Protection Fund and the Pensions Regulator. These bodies are delivering improved protection for scheme members, helping to renew confidence.

These two sets of draft regulations, which the previous Government consulted on, will respectively mean that the UK Government meet a European Commission ruling and ensure that the protection regime operates effectively. The first set of draft regulations concerns the Pension Protection Fund and a state aid issue. I hope that noble Lords will bear with me if I am not able to answer some detailed questions which I am sure will emerge. BT plc has appealed to the Court of First Instance on the state aid ruling, and last Friday the High Court concluded a hearing brought by the trustee to determine the precise meaning of the scheme’s Crown guarantee. Some answers from the court are likely next week, but several key issues remain to be explored by the court after that.

Noble Lords will be aware that the Pension Protection Fund was set up in 2005 to protect members of eligible pension schemes which are mostly final salary defined benefit schemes. It does this by paying compensation to members of eligible pension schemes when the sponsoring employer has become insolvent and there are insufficient assets in the scheme. The PPF is financed through levies on eligible defined benefit schemes, residual assets of pension schemes transferring into the PPF and investment returns. The administration costs of the PPF are paid for by money provided to the board by Parliament. This money is then recovered by an administration levy from schemes eligible for the PPF. A small number of schemes do not pay the PPF pension protection levy or the PPF administration levy. These are defined benefit pension schemes with a full Crown guarantee and therefore do not require the protection of the PPF.

A Crown guarantee is a promise given by a public authority to stand behind the liabilities of a pension scheme should the scheme wind up in deficit. The precise nature of the Crown guarantee and what it protects varies, but broadly the result is the same—these are schemes whose liabilities are ultimately underpinned by the taxpayer. In some cases, the Crown guarantee covers only a particular part of the scheme, certain members or certain benefits. These are known as “partially guaranteed schemes”. Such a scheme would have to pay an administration levy only in respect of the part of the scheme that is not covered by the guarantee.

In many circumstances, Crown guarantees for pension schemes do not present a problem as the sponsoring employers are not commercial entities operating in a competitive market. In 2009, the European Commission reported on an investigation into whether the Crown guarantee for certain liabilities that BT had to the pension scheme gave rise to an incompatible state aid. The Commission decided that the non-payment of the PPF levies by the BT scheme could not be justified under EU rules because it relieved BT from charges that its competitors had to pay and was therefore an incompatible state aid. It is important that the Government do not unduly distort competition in competitive markets through state aid. Consequently, the UK Government were required to cease the incompatible state aid and ensure that the BT scheme paid the full PPF levies.

In February 2010, the previous Administration made regulations by negative resolution to remove the exemption from paying the PPF pension protection levy. This followed consultation last autumn on draft regulations. This pension protection levy is set by the board of the PPF, is intended to raise £720 million in 2010-11 and is one of the ways by which the PPF funds the compensation payable to members of schemes in the PPF. This set of regulations will complete the action and remove the exemption from the PPF administration levy where it gives rise to an incompatible state aid. This second levy funds the running costs of the PPF and is set at the much lower level of £22 million in 2010-11. These regulations are the final part of implementing the Commission's decision. The Commission's decision in respect of the BT pension scheme applies only to that scheme. However, the Commission will expect the UK Government to apply the same reasoning to schemes in a comparable legal position, and where the facts are the same. These regulations are therefore drafted in such a way.

I turn to the Pensions Regulator (Contribution Notices) (Sum Specified following Transfer) Regulations 2010. The Pensions Regulator commenced operations in April 2005. It was established as an arm’s-length body and charged with regulating workplace pension schemes. Noble Lords will be aware that Parliament gave the regulator important powers, with cross-party support, to address the risk of avoidance activity. Avoidance is an attempt by a sponsor employer deliberately to walk away from its statutory pension obligations—for example, as part of a corporate restructure—or to offload them onto the Pension Protection Fund. This activity would have serious cost implications for those schemes that will remain responsible for paying the PPF pension protection levy.

One of the regulator's main powers to address the avoidance activity is the contribution notice. This requires a cash sum to be paid to the scheme, or to the board of the Pension Protection Fund, up to the value of the sponsor employer's full statutory debt to the scheme. There are legal tests to ensure that this power is used appropriately. For example, the regulator must be of the opinion that it is reasonable to exercise its powers and it must have regard to certain factors, where relevant, when forming its decision. These factors include the avoidance of involvement of the person in the act of avoidance, and the connection or involvement which the person has or has had with the scheme.

The Pensions Act 2008 amended the contribution notice power to close a loophole. The problem was that under the 2004 Act, the regulator was prevented from issuing a notice to any scheme other than the one in relation to which the avoidance occurred. This meant that an employer could avoid a contribution notice by transferring the members to another scheme. Requiring the employer to pay funds to the original scheme would not assist those transferred members, so a contribution notice might not be justified. Parliament agreed legislation, with support from all sides of the House, to permit the regulator to direct the notice to the scheme to which the members had been transferred.

These draft regulations, which are required under the 2008 Act, simply set out how the regulator must calculate the amount to be specified in a contribution notice where members are transferred from a defined benefit to a defined contribution scheme. The 2004 Act already provides the means for calculating this amount in respect of defined benefit funding rules, and these regulations provide the means for calculating the contribution notice sum where those rules do not apply. There are important safeguards, including that decisions to use the contribution notice must be made by the regulator’s determinations panel, which is independent of the evidence-gathering part of the regulator.

In my view, there is no undue impact on business, and consultation responses supported this. These regulations will in fact provide certainty for business on how this power works. In my view, the provisions of the Occupational Pension Schemes (Levies) (Amendment) Regulations 2010 and the Pensions Regulator (Contribution Notices) (Sum Specified following Transfer) Regulations 2010 are compatible with the European Convention on Human Rights. I commend the two sets of regulations to the Committee.

[Lord McKenzie of Luton]

My Lords, I thank the Minister for a precise and extensive explanation of these orders. Given that, as he indicated, they were promulgated under the previous Government, it will come as no surprise that we do not propose to oppose them. Notwithstanding the fact that I had command of the Pensions Act 2008, I do not propose on my account to delay the Committee much on these issues.

There are just a couple of matters in relation to the contribution notices on which I wonder if the Minister could update me. I went back and read a bit of the Hansard debate—sad person that I am—and it reminded me what a joy that episode was in my life. I recall that there were issues around the extent to which anti-avoidance measures should be written into the primary legislation to give assurances to businesses, trustees and sponsors of pension schemes, and how much should be left for a code of practice and other means to maintain flexibility to be able to ensure that new avoidance devices that came along could be properly addressed. On that issue, does the Minister’s experience to date—I accept that that experience to date has not been extensive—suggest that the balance of that approach was right? It was a matter of some debate at the time. Are there any emerging avoidance schemes of which we are aware, where we think that the anti-avoidance framework is not sufficient or does not give sufficient powers to the regulator to address those issues?

In the past there were proposals for insurance-based schemes that would, it was suggested, negate the need to pay the PPF levy because an insurance company would stand in the stead of the PPF. At the time, because the PPF was emerging and still something of a fledgling body, the previous Government were not prepared to entertain that, although there were issues about whether the benefit of an insurance contract could be a contingent asset for PPF purposes in doing the calculations. Will the Minister update me on whether there has been any further progress in those sorts of schemes and whether the current Government are minded to take a different view from the one that we took?

The levies order is pretty straightforward and we do not take issue with it, although I ask the Minister if he could give us a general update on the PPF and where it stands in the context of the current pensions framework. In the immediate past there were a number of challenges about whether the PPF would be able to withstand the thrust of new schemes that might be entering into the PPF—I think our line at the time was that there was 20 years’ worth of cash flow there, and that was the key driver. An update on that would be helpful, perhaps with an idea of the number of schemes currently covered by it.

--- Later in debate ---

[Lord Freud]

My Lords, I thank noble Lords for their contributions and I am glad that we were able to take the noble Lord, Lord McKenzie, on such a romantic trip down memory lane, although I sensed a little bitterness in his observation.

The first set of regulations addresses a fairly narrow issue relating to state aid. They are intended to address the rare situation where a reduction in the PPF levy for a pension scheme with a Crown guarantee, sponsored by a commercial entity, provides an unfair advantage. The regulations will ensure that the UK Government have complied with the European Commission’s decision and met their obligations. The second set of regulations provides the means for the regulator to calculate the amount of a contribution notice in certain cases, but only where the grounds for the use of this power have been met.

I turn to the points raised in the debate, and first to those made by the noble Lord, Lord McKenzie. He asked whether insurance contracts can be used. They may indeed qualify as contingent assets for the purposes of calculating the PPF levy, although there have been no recent representations on this matter and no changes in the law are currently planned.

The noble Lord asked what the experience of the Act had been in practice. As he said, these are early days, but I have pleasure in assuring him that, so far, the Act, which I acknowledge he was responsible for, appears to be working well. The noble Lord asked about activity in terms of emerging avoidance schemes. There are none that the Government are currently aware of. As he will know, the department and the Pensions Regulator work together closely in order to monitor the effectiveness of the legislation and ensure that it remains robust. He also drew our attention to paragraph 7.2 of the Explanatory Memorandum and the phrase,

“and only pay an administration levy in respect of the non-guaranteed part”.

I have pleasure in confirming for him that he has not found a flaw in the regulations because that is exactly—

[Lord McKenzie of Luton]

My Lords, the copy I have before me states,

“and only pay an administration levy in respect of the guaranteed part”.

[Lord Freud]

I thank the noble Lord for that. I have in front of me a piece of paper stating “the non-guaranteed part”, and it should be the non-guaranteed part. I hope that he does not have an earlier misdraft. I can assure him that the draft regulations we are considering use the term “non-guaranteed part”. If an earlier incorrect draft has been floating around and if that is in any way our responsibility, I of course apologise. But in the correct form it is “non-guaranteed part”. I have to congratulate him on his eagle-eyed spot, albeit of what would seem to be an out-of-date version.

The noble Lord asked where we stood on the levy. I have some information about that which will be handed over immediately. There are now 160 schemes in the PPF, and no doubt he will also be pleased to learn that the movement in the markets has meant that the deficit in the Purple Book has narrowed very appreciably. As of 30 June, it stood at around £21 billion.

I turn now to some of the points raised by my noble friend Lord German. He quizzed me on how this situation may affect other companies. The regulation reads rather misleadingly as if it is a very wide universe, but in practice, BT is the only commercial company operating in the marketplace where these regulations are relevant. We do not need to think about how this might affect other companies because there is only one other organisation with a partial guarantee, and that is Bradford & Bingley, which has been cleared by the European Union.

On the BT consultation, covered in paragraph 26, the guarantee to the company does not give it aid because it takes effect only at the time of insolvency. Where it does provide aid is by reducing the PPF levy while the company is extant.

[Lord McKenzie of Luton]

I am sorry to interrupt the noble Lord again, but I think that was a point that I may have touched on. Is there a potential for us to end up in a situation where if in fact BT were to become insolvent and therefore could not meet its obligations—obviously there is a big “if” attached to that—the scheme would have the benefit of the guarantee and would have had the benefit of PPF protection? My question concerns how those two things sit together and on what basis the levy is computed in those circumstances.

[Lord Freud]

I thank the noble Lord for that smack-on-the-nose question. It is much harder to give a smack-on-the-nose answer, because we are waiting to find out the implications of the legal case. The noble Lord is asking me to pile hypothetical on hypothetical and it is not possible at this stage to give a sensible answer. We could go on piling up the hypotheticals, but it would rapidly become silly, so I crave his patience at this stage. It is simply not possible to wonder how the different levels of guarantee and PPF protection may or may not interrelate.