Reducing transfer value quotes in an underfunded scheme: trustee considerations

It is important that trustees of occupational pension schemes follow, and are seen to have followed, due process.

Recently the Pensions Ombudsman was asked to decide whether the trustees of a defined benefit pension scheme improperly reduced the cash equivalent transfer value (CETV) available to a member by almost a quarter of a million pounds.

What were the facts?

Mr D applied for a CETV quote in September 2016. As the scheme had a funding deficit, the trustees requested advice from the scheme actuary, by way of an insufficiency report, to help them decide whether they should continue to pay CETVs in full.

The report concluded that:

• the scheme’s funding level was 84.9%;
• the maximum reduction that could be applied to a CETV was 15.1% (equivalent to a 45% reduction to that part of a CETV in excess of the Pension Protection Fund (PPF) levels of compensation);
• if CETVs were paid in full the scheme’s funding level would reduce significantly; and
• the trustees should take into account additional factors when deciding whether or not to reduce CETVs, such as whether the scheme had the extra security of any contingent assets, the strength of the employer covenant and the recovery plan which was in place to make good the deficit.

The trustees decided to follow the actuary’s advice and apply a 45% reduction to the part of Mr D’s CETV that was in excess of PPF compensation levels.

Mr D received a statement in November 2016 informing him that the CETV available to him was £967,934.83. The statement also showed the calculation method, including confirmation that the CETV had been calculated in accordance with the relevant legislation and had been reduced by £223,043.51 in order to reflect the long-term position of the scheme. It stated that the trustees could not say when full CETVs would be paid again but the decision to pay reduced CETVs would be reviewed on a regular basis (and they could even be reduced further, depending on changes to economic conditions).

Mr D was unhappy and raised a complaint under the scheme’s internal dispute resolution procedure. He suggested that it was gross negligence on the trustees’ part to have continued paying full CETVs in the period prior to his requesting a quote, when they were fully aware of falling gilt and bond yields. He argued that the trustees should have acted in January 2015 to improve funding levels (when the scheme’s deficit had increased to £3.5m). He also submitted that the additional contributions the employer had agreed to pay into the scheme in order to eliminate the deficit were clearly inadequate. In Mr D’s view, if the trustees had acted in early 2015, the reduction in his CETV would not have been so significant.

The trustees did not uphold Mr D’s complaint. They explained that they had acted in good faith and sought professional advice before making their decision. The decision to reduce the CETV was not taken lightly and was made in line with the relevant legislation, in order to protect the scheme’s funding position and the remaining members’ benefits.  The trustees explained that Mr D was under no obligation to proceed with the transfer of his benefits once he became aware that his CETV quote had been reduced.

What did the Ombudsman decide?

Mr D’s complaint was not upheld. The trustees had sought and carefully considered advice from the actuary and, as the scheme had a deficit, a reduction to the CETV could be made. When deciding whether to reduce the CETV, the trustees had to balance the interests of Mr D with the interests of the remaining members.

It is noted in the determination that the Pensions Regulator emphasises that trustees should not rely solely on the contents of an insufficiency report when deciding whether to make CETV. There was no reason to suggest that the trustees had relied only on the report in reaching their decision; they had given serious consideration to the report and also to other relevant factors (such as whether there were any contingent assets, the strength of the employer covenant and the recovery plan agreed).

The Deputy Ombudsman found that in light of all the evidence, it was clear the trustees had fully complied with the criteria set out in the relevant legislation before taking the decision to reduce CETVs.  She found that there was therefore no maladministration on their part.

The Deputy Ombudsman also noted that it is the Pensions Regulator which is responsible for ensuring that trustees comply with requirements for scheme funding and therefore the issues raised by Mr D in relation to the trustees’ actions in respect of the funding of the scheme and the investment of its assets were a matter for the Regulator, not for Mr D nor the Ombudsman.

Be mindful of proper process

It is understandable that the member in this case was frustrated at receiving such a large reduction in his CETV. However, this case is a reminder that where trustees have acted in accordance with legislation, sought and carefully considered professional advice, considered relevant factors and not considered irrelevant factors in reaching a decision, it is unlikely that their decision will be successfully challenged.