Employers ceasing to participate in an underfunded multi-employer DB scheme: new employer debt requirements

How the employer debt regime operates at present: a quick reminder

Currently, when an employer ceases to "participate" in a multi-employer DB scheme (but at least one other employer continues) a debt will arise unless the scheme is fully funded on the buy-out basis. The amount of the departing employer's debt is, in essence:

• The proportion of the buy-out debt which is attributable to employment with that employer plus a proportionate share of the "orphan debt"; and
• The expenses attributable to the employer's ceasing to participate (together the "buy-out debt").

How an employer may currently reduce its buy-out debt: a quick reminder

The departing employer does not have to meet the full buy-out debt where:

• The Regulator has approved a "withdrawal arrangement" – an agreement that the departing employer will pay at least the minimum funding requirement debt and the guarantor(s) will pay (broadly speaking) the balance at some point in the future.
• The scheme rules provide that the debt is apportioned in a different way (in many cases, at least since the L v M case, this needs Regulator approval in practice).

The new debt regime: when will an employer debt be triggered?

The regulations provide that an employer debt will be triggered on the date:

• The employer ceases to employ at least one active member of the scheme and at least one other employer continues to employ at least one active member accruing defined benefits; or
• Where the employer has notified the trustees within one month of ceasing to have an active member that it intends to employ an active member within 12 months ("period of grace") but:
  • no such active is employed or the employer no longer intends to employ an active; or
  • the employer become insolvent during the period of grace, the employer is treated as if the period of grace had not occurred.

Scheme assets and liabilities: how will they be calculated?

The trustees will be involved with the calculation, determination and verification of the scheme's assets and liabilities.

The assets to be taken into account are, broadly speaking, those in the scheme's audited accounts. However, an updated asset assessment at the date of a trigger event may be used (rather than having another full audited set of accounts) if the trustees, after consulting the departing employer and the other scheme employers, so decide.

Liabilities are calculated and verified by the actuary on the assumption that they will be bought-out with an insurance company. The liabilities also include expenses which the trustees consider would be incurred in connection with winding-up. An updated actuarial valuation may be prepared at the date of a trigger event may be used rather than having another full scale valuation if the trustees, after consultation with the actuary and the departing employer, so decide.

How will the departing employer's share of the debt be calculated/apportioned?

The regulations provide five ways in which the employer's share of the debt may be calculated/apportioned:

• Liability share
• Scheme apportionment arrangement
• Regulated apportionment share
• Withdrawal arrangement
• Approved withdrawal arrangement

What is the liability share?

This is the default method for calculating the departing employer's share of the debt. The trustees determine the departing employer's liabilities, after consulting the actuary and departing employer, as follows:

• Where there is an existing apportionment arrangement in place requiring liabilities to be apportioned in a certain way, liabilities shall be so apportioned;
• Subject to that, the liabilities will be those in relation to the employer's scheme members (that is only those liabilities relating to pensionable service with the departing employer, but including transferred in benefits); or
• Where the trustees are unable to determine to which employer any liabilities are attributable (or where that determination would lead to disproportionate cost), such liabilities shall be attributed as follows (in this sequence):
  • Either:
    • If the departing employer is the last employer of any member, the liabilities will be attributable to the departing employer, or
    • If the liabilities of any member cannot be attributed to any employer, they shall be attributable in a reasonable manner to one or more employers (which may or may not include the departing employer).
  • Or if the trustees are unable to determine whether or not the employer is the last employer of any member and those liabilities cannot be attributed to any employer, the liabilities shall be treated as orphan and not attributable to any employer.

What is a scheme apportionment arrangement?

The amount of a statutory debt due from a departing employer may be reduced significantly using a scheme apportionment arrangement. A scheme apportionment arrangement is an arrangement under the scheme rules that:

• Provides for the departing employer to pay a scheme apportionment share rather than the liability share. Where the scheme apportionment share is less than the liability share, the arrangement apportions the shortfall amongst one or more of the remaining employers.
• May provide for when the amount apportioned is to be paid.
• Is entered into before, on or after the trigger event.
• The trustees consent to the arrangement.
• Meets the "funding test". The funding test requires that (i) the remaining employers will be reasonably likely to be able to meet the technical provisions taking into account any changes necessary as a result of the arrangement and (ii) that there is no adverse affect on the security of members' benefits as a result of the arrangement due to certain material changes relating to funding.

The regulations make clear that the funding test does not need to be met where:

• The departing employer's scheme apportionment share is higher than the liability share and the trustees are satisfied that the departing employer is able to meet the scheme apportionment share; or
• At the date of the arrangement the scheme is winding-up, the scheme apportionment share is lower than the liability share but the trustees are satisfied that it is unlikely that the departing employer would be able to pay the liability share but is likely to be able to pay the scheme apportionment share.

Entering into a scheme apportionment arrangement will be a "notifiable event", but it does not require Regulator approval (although consideration needs to be given to the "Clearance" guidance).

What is a withdrawal arrangement?

The amount of a statutory debt can also be reduced by using a withdrawal arrangement. A withdrawal arrangement which does not have to be approved by the Regulator must meet certain requirements including:

• Specifying the amount the departing employer must pay and when. This must be (broadly speaking) an amount equal to or more than its liability share of the deficit on an ongoing scheme funding basis as opposed to the default "buy-out" basis (Amount A).
• Specifying the amount the guarantor(s) are liable for (Amount B).
• Specifying who will meet expenses in connection with the arrangement.

The trustees may only enter into a withdrawal arrangement where they are satisfied that:

• Part (i) of the funding test (above) is met; and
• At the date of the agreement, the guarantors have sufficient financial resources to be likely to be able to pay the guaranteed amount that would arise.

The regulations also provide that notifiable events regime covers various events relating to the guarantor where there is a withdrawal arrangement in place.

What is a regulated withdrawal arrangement?

A regulated withdrawal arrangement is a withdrawal arrangement which is approved by the Regulator. The Regulator cannot approve a withdrawal arrangement unless:

• The amount the departing employer proposes to pay is less than the liability share of the deficit on an ongoing scheme funding basis;
• The trustees have notified the Regulator that the funding test is met; and
• The Regulator is satisfied that it is reasonable to approve the arrangement taking into account such matters as it considers relevant.

The Regulator may approve an arrangement either before or after a trigger event subject to such conditions as it considers appropriate. The Regulator also has the power to issue a variety of directions in relation to approved withdrawal arrangements.

The regulations also provide that the notifiable events regime covers various events relating to the guarantor where there is a withdrawal arrangement in place.

What is a regulated apportionment arrangement?

The conditions which must be met before a regulated apportionment arrangement may be put in place are:

• The trustees think that there is a reasonable likelihood of the scheme going into Pension Protection Fund ("PPF") assessment in the next 12 months or that an assessment period has commenced.
• Where an assessment period has not commenced, the trustees agree to the arrangement.
• The arrangement and any amendments made to it are approved by the Regulator.
• The PPF does not object to the arrangement.

Transitional provisions

The regulations make it clear that they apply to "trigger events" which happen on or after 6 April 2008. Any "triggers" which happened before that date are subject to the relevant previous regime.

The main exception to this provides that the previous regime continues to apply for 12 months where:

• An agreement is entered into before, on or after 12 months after 6 April 2008 on the basis of a scheme apportionment rule put in place before 14 March 2008; and
• The transaction to which the agreement related was considered before that by at least one of the parties to the agreement or a connected or associated person of one of the parties.

Comments

The employer debt requirements which require the full buy-out debt to be paid on employer cessation have always been problematic. In practice, many employers had started preferring the scheme rule route to apportion debts rather than putting in place an approved withdrawal arrangement in order to mitigate against its impact. However, the scheme rules approach has limitations.

The regulations which come into force on 6 April 2008 are the Department for Work and Pensions' (DWP) stop gap solution to the issue. The DWP press release which accompanied the publication of the regulations comments that the DWP will continue to work with the pensions industry to seek a practical solution to the problem of internal corporate restructurings triggering the employer debt requirements without undermining the principle that employers should fully meet their pension obligations. We await these further developments with interest.

The draft regulations have been re-worked to produce the finalised regulations. In particular, the transitional provisions have been substantially extended. The regulations provide that where an employer ceased to participate in a scheme before the commencement date, the relevant previous regime would continue to apply. In addition to this, the final regulations state the current regime allowing apportionment in accordance with scheme rules will apply for up to 12 months after 6 April 2008 where the rule was in place before 14 March 2008 and the transaction to which the agreement was related was under consideration. This is a useful easement for employers where deals have been done but the trigger event has not yet happened.

The regulations recognise that it is not always appropriate for departing employers to have to shoulder the full buy-out debt immediately. The regulations allow for various arrangements to be put in place to reduce the departing employer's debt below the buy-out level. In practice, the key issue will be whether the trustees can be comfortable that the "funding tests" are met and, in relation to withdrawal arrangements, the guarantor test is met.

The final regulations make it clear that a debt will be triggered when an employer has no more active members only when another employer continues to have actives (unless the relevant notice is given where the employer expects to have further active members in the next 12 months). Therefore, there will be no debt triggered where all employers cease accrual at the same time unless that event triggers wind-up of the scheme under the rules (as now).

The new regulations do also offer some practical assistance in calculating debts which will be helpful.

This analysis is based on the Occupational Pension Schemes (Employer Debt and Miscellaneous Amendments) Regulations 2008 published on 14 March 2008 and due to come into force on 6 April.