House of Commons - Social Security

Select Committee on Social Security Minutes of Evidence

4. PENSION CREDITS—CLAUSES 7-13 AND SCHEDULE 2

4.1 Discharging liability for pension credits—the method

We welcome the approach that gives the scheme or arrangement the choice between conferring rights under the scheme (internal transfer) or external transfer. We also welcome the flexibility over the benefits to be created, under the internal transfer approach. We note that the value of the rights must be equal to the amount of the credits. It is important for pension schemes that this transaction is cost neutral for them.

The scheme's option

We note from paragraph 1(3) of Schedule 2 that the arrangement may impose the external transfer option in circumstances to be set out in regulations. We also note that external transfer has to be offered before internal transfer can be implemented, in a funded occupational pension scheme (but not in an unfunded one).

We are pleased that there will be a default route where the pension arrangement wants to follow the external transfer route, but the spouse has not nominated a receiving arrangement. Presumably regulations will give the transferring arrangement the ability to buy benefits by external transfer on a money purchase basis, to keep down the costs and thereby enable smaller transfers to be made.

Where trustees hold annuities securing scheme benefits, is the "pension arrangement" the policy rather than the scheme? If it is the policy, the person responsible for it would be the provider of the annuity, so it does not seem that the trustees of the scheme will have any control over how the liability for the credit is discharged.

Internal transfer

We do have some concern about the status of holders of pension credit benefit ("PCB"). Where the arrangement is a trust, they will be entitled to benefits under the trust and will therefore be beneficiaries, for the purposes of the trustees owing duties to them (eg contemplating them where discretionary benefits are awarded, dealing with them even-handedly). This requires trustees (and perhaps employers) to have regard to a category of people not contemplated when the trust was established. This may have implications in final salary schemes in relation to discretionary benefits and distribution of any surplus.

The crucial details of the pension credit will be left to regulations. However it seems a scheme could set up credits on any of the following bases or in any combination of these bases, whichever basis the member's benefits were on:

— a fixed rate of benefit;

— a money purchase benefit;

— added years, for a spouse who is already a member of the scheme in his or her own right;

— a notional period of pensionable service—we are not clear how this would work in a salary-related scheme but presumably the spouse would have to be credited with a notional salary as well.

In the notional pensionable service case the credit would have to include revaluation in deferment but there is no requirement for LPI increases once the pension is in payment (Schedule 4, paragraph 38). (We will comment separately below on the requirements for credits derived from contracted-out benefits.) In the other cases the scheme would have the ability to decide whether revaluation or pension increases would apply.

We expect most schemes would want to create rights in the same pattern as deferred pensions, although they would not necessarily be the same in all respects and it seems likely that options available to deferred pensioners would only be made available on a cost neutral basis. From the administration point of view, it seems easier to create pensions carrying LPI increases than not.

In paragraph 5 of Schedule 2, we wonder whether a more precise phrase could be found than "noting the rights in his books". How about "established the rights in its records"? Obviously there will be a process, from first noting the fact of an impending divorce, through noting receipt of the pension sharing order, to actually setting up rights for the spouse.

External transfer

We note that, under Clause 9, the implementation period will not start to run until the scheme has received copies of the pension sharing order and the divorce order. Clause 9(1)(b)(2) refers to prescribed information relating to the transferor and transferee. Presumably the information in relation to the transferee will include information about the chosen receiving arrangement for an external transfer.

Presumably the regulations will allow transfers without consent along the lines of regulation 12 of the Preservation Regulations, presumably simply on the basis of an equivalence of value test. If an actuarial certificate will be necessary, and the actuary has to compare the relative positions on winding-up under the transferring and receiving arrangements, transfers without consent will be much more difficult.

We note that, if the transfer is from an approved arrangement, the receiving arrangement has to be approved and also satisfy prescribed requirements. It would be helpful if some indication of these could be given. We also note the requirements about receiving arrangements where contracted-out rights or safeguarded rights are transferred. Presumably, for contracted-out rights, the requirements will mirror the Contracting-out Transfer Regulations.

Where the member's pension arrangement is an annuity contract or assurance policy, we note that the arrangement may discharge its liability by entering into an annuity contract with the spouse or by "assuming an obligation to provide an annuity" for the spouse. Further information about the difference between these two paragraphs would be appreciated.

Unfunded schemes

Paragraph 3 of Schedule 2 does not appear to give the employer (as opposed to the managers of the scheme) any choice over how the pension credit is discharged. Since the payment of an external transfer crystallises the employer's liability, the employer should have some say concerning the method of discharge.

Underfunded schemes

We note the provisions in paragraph 9 of Schedule 2 about reducing the amount of the pension credit if the scheme is under-funded. The easiest way of doing this might have been to link reduction of the pension credit to reduction of cash equivalents, but on balance we think it would be better not to have a link between the two. The reason is that employers and trustees may choose to carrying on paying full cash equivalents even though a scheme is temporarily under-funded, and we do not believe the considerations would be the same for pension credit holders. Your explanatory note says the scheme will only be able to offer a reduced pension credit where the former spouse has refused the offer of internal transfer. This presumably means that the credit will only be reduced on external transfer, and the option of reducing the pension credit will only be available to a scheme that offers the option of internal transfer. Schemes that want to insist on external transfer will therefore be forced to pay the pension credit in full.

Overpayments

We note the protective provisions in paragraph 10 of Schedule 2, if an arrangement has made overpayments to or for the member in ignorance of the pension debit. There is an interrelationship here with Clause 3(6), which puts the onus on the parties to notify the arrangement about the pension sharing order, and provides that the order will lapse if not notified within two months after the decree. We welcome this requirement for notification. However it is conceivable that the member's scheme might have paid benefits, or even a transfer payment, within the two month period and before copies of the decree have been supplied. In such a case, it seems paragraph 10 would allow the pension credit to be reduced. The explanatory note says that the pension debit can be reduced—should it in fact be increased?

Death before implementation

We realise there is a problem if the former spouse dies after the pension sharing order is made but before it is implemented. The explanatory note to Clause 10(2) says regulations will provide that the deceased former spouse should be treated as if they had become a member of the member's pension arrangement. In other words, internal membership will be compulsory in the circumstances. We are concerned about this because it requires schemes which would otherwise be able to choose to assist on an external transfer only to design a benefit structure for internal transfer, including presumably obtaining a safeguarded rights certificate. The explanatory note refers to a return of fund if the pension credit was derived from a personal pension scheme. Would an occupational pension scheme be allowed to design an equally simple benefit in these circumstances, for example a return of fund, paid on discretionary trusts?

We would like to see the ability for the member's arrangement to hold the pension credit in suspense as a lump sum if for any reason the liability for the pension credit cannot be discharged, for example because the former spouse has failed to notify a receiving arrangement, or because no receiving arrangement can be found which will accept the former spouse, which might happen perhaps in a case of a very small pension credit, or possibly on the grounds of the ill-health of the former spouse.

4.2 Discharging liability for pension credits—timing and sanctions

OPRA has power to extend the timescales for occupational schemes but it seems there is no such flexibility for other types of pension arrangement. Similarly there are penalties for occupational schemes failing to comply but not for other types of pension arrangement.

The timescales need to fit with the timescales for transfer payments, both for consistency and so that the member cannot require a transfer payment during the implementation period and thereby defeat the pension sharing order.

4.3 Contracting-out

Clause 11 introduces new ss.68A—68M of the PSA and the following comments are on the new sections.

An ex-spouse with a pension credit from a contracted-out scheme will be given "safeguarded rights" and these have been modelled on the protected rights provided by contracted-out money purchase schemes. It therefore seems that, if a contracted-out salary related scheme wishes to offer internal transfers, it may be easiest to offer the ex-spouse money purchase benefits. If the scheme converts the part of the pension credit which derives from the member's GMP and post-6April 1997 benefits into a money purchase benefit, it will be very messy for the scheme if it tries to deal with the rest of the credit except by giving benefits also in a money purchase form.

68A If safeguarded rights will be on a money purchase basis, it would be simpler to define the safeguarded rights as the rights granted to the transferee of the pension credit which derive from that part of the pension credit which is attributable to contracted-out rights or safeguarded rights of the transferor.

Are COMBS included in s.68A(5)(a)? We note that scheme rules will need to be amended if the scheme is to provide safeguarded rights (s.68A(2), 68C).

68B Is it really necessary that a contracted-out scheme which wishes to provide internal transfers (and thus has to provide safeguarded rights) should need to go to the Secretary of State for a further certificate before it can provide the safeguarded rights? This seems an unnecessary expense both for pension schemes and for the DSS. It would be helpful if the DSS issued model safeguarded rights rules.

The notes on sub-s.(2)(c) show that the safeguarded rights are intended to include the provision of survivors' benefits and indexation. This is consistent with the modelling on protected rights. As regards indexation, it would be convenient if all protected rights were subject to indexation along the lines of s. 51 of the PA 1995 even if the pension sharing order was against a member who had pre-6 April 1997 contracted-out rights.

68C This mirrors s.27(1) of the PSA. It is not clear what is meant by "identification". Presumably, it means distinguishing safeguarded rights from other rights of the ex-spouse.

68G This mirrors the interim arrangements provisions in the PSA. The 1993 Act provisions also include provisions which apply where the member dies during the interim period and is survived by a widow or widower under the age of 75. These are presumably omitted from s.68G because the question of survivors' benefits in relation to safeguarded rights is to be dealt with in regulations. Will this section work if the safeguarded rights are on a defined benefit basis?

68H The notes to the Bill say that this section is intended to apply to schemes which do not provide defined benefits in respect of safeguarded rights. The opening three lines of the section however say that it does not apply to schemes where the safeguarded rights involve "the payment of a pension which takes the form of a defined benefit". The formulation in the notes is more accurate because, even in a money purchase scheme, a pension which comes into payment under the scheme will be a defined benefit when it comes into payment. (The money purchase pot is used to purchase an annuity of a specific amount and that annuity is then by definition a "defined benefit").

The notes do not indicate what death benefits will attach to the qualifying annuity. Presumably these will include a survivor's reversionary annuity but will there be any provision for a five-year guarantee?

We note that the definition of "normal benefit age" in sub-s.(4) is similar to the definition used in the proposed s.101B (see Clause 12 of the Bill), rather than s.29(1) of the PSA so that, for example, the safeguarded rights annuity could be drawn before age 60. The provisions introduced by Clause 11 of the Bill as regards safeguarded rights do not deal with the situation if the ex-spouse is already over the "normal benefit age" when the pension sharing order is made. Nor do they deal with the situation if the ex-spouse dies before reaching normal benefit age and starting to draw his or her annuity.

68I If this section and s.68H are to be mutually exclusive, the words "does not" need to be deleted in line 3.

68L The notes to the Bill say that this section complements the provisions for schemes which have ceased to be contracted-out schemes in ss.52 and 53 of the PSA. However, under sub-s.(1), it would also apply to a scheme which had never held a safeguarded rights certificate at all but which had safeguarded rights. Is the draftsman therefore making provision for the situation where a contracted-out scheme tries to honour a pension sharing order through an internal transfer without having obtained a safeguarded rights certificate?

The more burdensome the requirements for safeguarded rights are, the less pension schemes will be willing to offer internal membership. There is a balance to be struck here between different policy aims.

Schedule 3

The same formula is used in the proposed ss.45B(4), 55A(3) and 55B(4) of the Social Security Contributions and Benefits Act 1992. In each case, the wording is difficult to understand and should be clarified.

4.4 Preservation and transfer rights

General

Clause 12 reflects the preservation requirements contained in Part IV PSA. Revaluation under s.83 PSA seems intended to apply where the benefits are based on notional pensionable service. However pensionable service has to cease in order for that section to apply and you will need to amend it to address this point as well.

It would be helpful if the Bill could make it clear that a receiving scheme receiving PCB from another scheme can separate it and treat it as PCB in their scheme also. Is the word "indirectly" in the definitions in s.101B intended to achieve this result?

Presumably the disclosure requirements are to be extended to require both the trustees of occupational pension schemes and providers of personal pension schemes to provide details of the scheme, its funding, and benefit statements to those with PCB under the scheme.

Clause 12

Clause 12 introduces new ss.101A to 101P in the PSA. The following are comments on the new sections:

101B "pension credit rights"—again contains a reference to "future" benefits. It would be helpful if terminology could be made consistent with terminology in the PSA, which simply refers to "benefits";

"normal benefit age"—this definition refers to the earliest age at which a person is entitled to receive "a pension" under the scheme by virtue of PCB. The definition of normal pension age in s.180 PSA refers to "benefits" and the two definitions should be made consistent if they are intended to work in the same way;

"pension credit benefit"—we note that this definition does not contain any equivalent to the link between long service benefit and short service benefit in the equivalent definition of short service benefit in the PSA. Thus PCB could be provided as a money purchase benefit before normal benefit age but as a defined benefit on or after normal benefit age and we assume this is intentional.

101C This suggests that Clause 12 deals only with the equivalent to short service benefit, ie benefits accrued before age 65. There are no equivalent provisions to those contained in the PSA which describe long service benefit and how that might be split for a member of a scheme divorcing after age 65. Similarly, 101D(2) mirrors the provisions which apply to short service benefit, such as alternatives to paying it at normal pension date, which emphasises that this is intended to deal with a divorcing member who would otherwise have short service benefit. A separate section is needed to deal with splitting a pension which is in payment or where the member is past normal pension date.

as if

101F Again, "member" is used, and is intended to cover the person awarded PCB rights, but it would be helpful if a definition of member could make this clear.

101H This reflects the provisions of s.93A PSA which also deals only with final salary occupational pension schemes. However, we assume that the requirements of money purchase schemes and personal pension schemes to provide statements of cash equivalents on request will be extended to cover PCB.

101I We note that a further Guidance Note from the Faculty and Institute of Actuaries will be required, as well as the regulations contemplated.

101J Here, as well as elsewhere in the Bill, penalties are to be imposed by OPRA. Both occupational (both final salary and money purchase) and personal pension schemes are required to comply with the provisions of the Bill. OPRA will deal with occupational pension schemes—how are personal pension schemes to be dealt with?

101K There are no mirror provisions to s.100(3) PSA, which allows a person to make a further request for a transfer if the original one is withdrawn. We assume that it is intended to allow this within the confines of not allowing too frequent transfer requests.