In a hearing which took place over 4 days in November 2017, the High Court heard a Part 8 claim on whether the proposed closure of a defined benefits scheme to further accrual was effective and, if so, whether the final salary link would be preserved given its ties to the power of amendment and rectification. Judgment was handed down on January 26, 2018.
As a result of the funding deficits in many defined benefits schemes, in recent years many employers have reduced the benefits provided under such schemes. When closing a scheme to future accrual, employers often seek to have past service benefits calculated as though members had left service, with no ongoing linkage to future levels of salary for those benefits while members remain in service. This is known as breaking the final salary link.
The power of amendment provisions in an occupational pension scheme’s governing trust deed may include a restriction, or fetter, on the use of that power, the scope of which may be subject to debate. One of the best known examples of a fettered amendment power was considered by the High Court in Re Courage Group’s Pension Scheme  (Courage).
The Courage decision
The fettered amendment provisions in Courage provided that the power could not be used to “vary or affect any benefits already secured by past contributions in respect of any Member without his consent in writing”.
In Courage, Millett J held that the benefits protected by the restriction included “the prospective entitlement to pensions based on final salary”. He could see:
“no reason to exclude any benefit to which a member is prospectively entitled if he continues in the same employment and which has been acquired by past contributions, and no reason to assume that he has retired from such employment on the date of the employer's secession when he has not.”
The Court held that this proviso protected final salary linkage in respect of members' accrued rights. Similarly, in IMG Pension Plan HR Trustees Limited v German , (IMG) an amendment power providing that “no amendment shall have the effect of reducing the value of benefits secured by contributions already made” was interpreted consistently with Courage.
However, for many commentators, the suggestion that the Courage judgment allows wording such as “accrued rights” and “benefits secured” to confer a link to final salary is incorrect. It has been argued that future increases in pensionable salarymay never happenand should not be included within the concept of “benefits secured”. Applying the Courage logic, every future, potential or contingent benefit, to the extent that it can be attributed to pensionable service up to the date of the amendment, must be treated as having been already “secured”, and could not be removed by amendment. Thus, where “benefits secured” are being tested at a specific point in time, it has been suggested that no account should be taken of anything that has not already happened, because it cannot be said to have been “secured”.
The case of Wedgwood Pension Plan Trustee Ltd v Salt concerned the Wedgwood Group Pension Plan (the Plan), a multi-employer final salary scheme. On June 26, 2006, the Plan’s participating employers served notice terminating their liability to contribute further in respect of members currently in pensionable service. After the Wedgwood Group's financial position deteriorated further, most of the participating employers became insolvent in the following years. The last remaining participating employer went into administration in April 2010. At the date of the High Court hearing, the Plan was in a Pension Protection Fund assessment period and heavily in deficit.
Key provisions in the scheme rules
The relevant rules governing the Plan at the material time were those adopted in 1995 and replacement rules adopted in 2001.
Rule 48 in the 1995 rules (the Amendment Power) provided that:
“The Principal Company may at any time and from time to time by instrument under its Common Seal alter or modify all or any of the Rules for the time being in force or make any new Rules to the exclusion of or in addition to all or any of the existing Rules aforesaid and any Rules so made shall be deemed to be Rules of the same validity as if originally embodied herein and shall be subject in like manner to be altered or modified and any alteration modification or addition of or to the Rules which may be effected in exercise of the power contained in this Rule shall be notified to the Members by posting the same in some conspicuous place in all the works and offices of each of the Participating Companies provided always that no alteration modification or addition shall be made which (i) shall prejudice or adversely affect any pension or annuity then payable or the rights of any Member.” (Emphasis added). The words in bold comprise the Fetter on the Amendment Power.
Rule 62 in the 2001 rules (the New TerminationRule) provided that:
“A Participating Employer
(a) can stop contributing in respect of all or some of its employees by giving written notice to the Trustees
(b) will stop contributing
(1) if it stops being a Qualifying Employer, from a date 12 months after it stops being a Qualifying Employer, unless the Board of the Inland Revenue has agreed it can contribute after that date,
(2) if it stops carrying on business because of liquidation or otherwise, or
(3) if it fails to observe and perform all or any of its obligations under the Plan and the Trustees give written notice to the Participating Employer that its participation in the Plan is to end
and, as soon as that happens, Member’s Contributions in respect of any Members affected will stop.
If a Participating Employer stops contributing and Rule 63 (Winding Up) does not apply the provisions of Rule 17 (Benefits on leaving the Plan) will apply to each Member then in that Participating Employer’s service and for whom contributions have been stopped. If a Member is not a Qualifying Member, the Principal Employer can direct the Trustees to treat him as a Qualifying Member for the purpose....”
Rule 45 in the 1995 rules (the Previous Termination Rule), the predecessor to the New Termination Rule, provided that:
“If an Order shall be made or an effective resolution passed for the winding-up (otherwise than for the purpose of reconstruction or amalgamation with any other Participating Company) of any Participating Company other than the Principal Company or if from any cause it shall at any time thereafter be found by any such Company other than the Principal Company to be impracticable or inexpedient for such Company to continue to participate in the Plan or if any Company for the time being participating in the Plan shall cease to be a Subsidiary or Associated Company (as defined in the Rules) such Company shall retire from the Plan and the following provisions shall apply...” (Emphasis added).
Therefore, the circumstances in which an employer could terminate its participation in the Plan were widened considerably under the New Termination Rule.
Issues for the Court
The trustee issued representative proceedings, seeking the Court’s directions on several questions of construction. The purpose was to determine whether the employers’ termination notice served under the New Termination Rule was effective to:
- close the Plan to future accrual of benefits by active members; and
- break the link to members’ final salaries in the calculation of their benefits.
The Court looked at two separate main issues:
Issue 1 - the scope of the Fetter
This was divided into two parts:
- did the Fetter in apply only to members' accrued rights at the date of the amendment or did it also protect members' future rights which would accrue following completion of further pensionable service?
The trustee argued that the Fetter protected only members' accrued rights, though it accepted for this purpose that accrued rights should be calculated on the basis of a final salary link. The representative beneficiary argued that both future rights and accrued rights were protected by the Fetter; and
- was the New Termination Rule validly introduced, such that it permitted future accrual to be terminated by the employers’ termination notice, with no continued final salary linkage? The answer to this point depended on whether the Amendment Power could be exercised to change the Previous Termination Rule to the New Termination Rule without infringing the Fetter.
The trustee argued that the New Termination Rule was validly introduced and the employers’ notice was effective both to terminate future accrual for all members and to break the final salary link. The representative beneficiary took the opposing view.
Issue 2 – the validity of the New Termination Rule
If the introduction of the New Termination Rule had been achieved via means outside the scope of the Amendment Power, was future accrual terminated and the final salary link nonetheless broken by the employers’ termination notice on the basis that the introduction and exercise of the New Termination Rule was valid subject to an overriding limitation that brought it into line with the Fetter? The trustee argued that the New Termination Rule should be construed as subject to whatever additional overriding protection was required under the Amendment Power, relying in particular on the High Court decisions in Bestrustees plc v Stuart  and Betafence Ltd. v Veys .
The Court held that the employers’ 2006 termination notice was effective both to stop future accrual and to break the final salary link.
Issue 1(i) - did the Fetter in apply only to members' rights accrued at the date of the amendment or did it also protect members' future rights which would accrue following completion of further pensionable service?
The Court ruled that the natural meaning of the words “the rights of any member” in the Amendment Power was the rights which had accrued to a member as a result of past service. The word rights did not cover benefits which might in the future be obtained as a result of future service with an employer. This conclusion was consistent with the proper approach to construction of pension scheme rules, as referred to by the Court of Appeal in Buckinghamshire v Barnado’s . It also took account of the requirement to construe a scheme’s rules so as to give reasonable and practical effect to the scheme bearing in mind that the scheme “has to be operated against a constantly changing commercial background”, in the words of Arden LJ in the Court of Appeal in Stevens v Bell . This construction would protect rights gained by members through past employment while enabling the employer to stop those benefits accruing in the future.
In construing the scope of the Fetter, the judge (Penelope Reed QC) noted that none of the authorities cited by the parties were helpful as they concerned the construction of “very specific wording, quite different from the words used in [the Amendment Power]”. On the other hand, decisions where the Court had found future rights were not protected (notably Courage) also featured significantly different wording.
In Courage, as in the subsequent decision in IMG (and several other cases considering the meaning of specific restrictions in amendment powers), the real issue was whether the relevant fetter required final salary linkage to be maintained. In both Courage and IMG, for different reasons, it was concluded that it did.
Issue 1(ii) - was the New Termination Rule validly introduced, such that it permitted future accrual to be terminated by the employers’ termination notice, with no continued final salary linkage?
The Court ruled that the New Termination Rule had been validly introduced, such that it allowed future accrual to be terminated by the employers’ termination notice. However, its introduction engaged the Fetter that protected the final salary link for existing members. As a first step, the Court held that the Previous Termination Rule had enabled a participating employer to retire from the Plan if, for any cause, it found that it was impracticable or inexpedient to continue to participate. There was no corresponding requirement in the New Termination Rule and the absence of such wording made it easier for a participating employer to stop contributing to the Plan than previously. This change therefore fell foul of the Fetter by prejudicing or adversely affecting the rights of the members.
Issue 2 – was the New Termination Rule validly exercised?
The Court held that the introduction and exercise of the 2001 Rule was valid, but subject to an implied limitation that notice of termination could not validly be served by the employers unless it had first for any reason been found by the employer to be impracticable or inexpedient to continue to participate in the Plan. In finding that this limitation should be implied, the Court noted that the thrust of the decided cases was that if a limitation could be implied that prevented the members being prejudiced, then the Court “should not be slow to make that implication”.
The next question was whether the principal employer would have exercised the Amendment Power to introduce the New Termination Rule had they been aware that exercise of the power would be subject to the implied limitation. This question arose in light of the Court of Appeal decision in IBM United Kingdom Holdings Ltd. v Dalgleish . The judge commented that in IBM, the Court appeared to have considered it necessary to deal with an issue which, if not dealt with, would have left the exercise of the power open to attack. On the facts, the Court held that the principal employer would on balance have amended the Plan to introduce the New Termination Rule if told of the necessary limitation. The amended rules adopted in 2001 were designed to govern the Plan on a long-term basis and it was foreseeable that the participating employers' financial position might change in the future. The greater flexibility imported by the New Termination Rule would allow the employers to make a “more nuanced decision should there be financial difficulties”.
A further question was whether, in exercising their power under the New Termination Rule, the employers could have proved that it was impractical or inexpedient for them to continue to participate in the Plan. Although there was no evidence any party turned their mind to this specific issue in 2006, it was clear that the Waterford Wedgwood Group was experiencing financial difficulties at the time. Continued participation would have jeopardised the possibility of turning round the Group’s financial position. These factors were sufficient for the employers to have concluded legitimately in 2006 that it was impracticable and inexpedient for them to continue to participate in the Plan, had they asked this question at the time.
This judgment is a useful addition to the competing authorities on Courage-type fetters in amendment powers, particularly in confirming that future rights are not covered by a fetter which protects “the rights of any Member”. It is not yet clear whether the representative beneficiary intends to appeal the decision, but it should also be noted that leading counsel for the trustee reserved his right to argue on appeal that Courage was wrongly decided in relation to final salary linkage.
One of the more difficult aspects of the judgment arises from the fact the trustee accepted for the purpose of Issue 1 that the Fetter protected final salary linkage, and argued for the purpose of Issue 2 that the Fetter was not engaged at all. The Court found that the Fetter was engaged by the introduction of the New Termination Rule, but concluded nonetheless that the final salary link was broken on termination. The Court's reasoning in this respect appears to be based on the proposition that introduction of the wider power under the New Termination Rule, although a prejudicial change, was permissible if there was compliance with the implied limitation that notice of termination was invalid unless the employer had first concluded it to be impracticable or inexpedient to continue to participate in the Plan.