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The Pensions Act 1995 provides the Pensions Regulator with a power that enables it to install trustees. These trustees may be existing members of the scheme or, where appropriate, independent trustees who are professional trustees and fully independent of the employer or any other interest in the scheme.

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In another place, Clause 109 amended the Bill to replace the “necessary” test in Section 7(3) of the Pensions Act 1995 with one of reasonableness so that the Pensions Regulator could take action to appoint trustees where it is reasonable to do so. The noble Lord’s amendment, as he outlined, would reverse that amendment and retain the present “necessary” test.

The “necessary” test was introduced in the context of a different regulator and a different market environment. As we have discussed a number of times, particularly this week, developments in the pensions market are fast moving and the “necessary” test requires a burden of proof that is inappropriately weighted against regulatory intervention, even where that intervention may be the right and the most reasonable course of action.

We have seen recently how the regulator used this power to install independent trustees in a scheme whose employer had been taken over by a new organisation that sought to install its own senior staff as trustees and to manage the scheme’s assets in order to achieve returns to shareholders of the new organisation that appeared to place these new employer-appointed trustees in the position of an acute conflict of interest. This case is one example of the way that developments in the pensions market can be fast moving, and risks in the pensions environment can change quickly. It has become clear that the “necessary” test constrains the regulator, who may only appoint a trustee if he is satisfied that there is no other option available, and must act almost as a last resort. If regulation is to be effective, it must be sufficiently agile to enable swift intervention where there is justification. A “reasonable” test will deliver this. The test is well known in law and will provide the regulator with a less fettered power, while remaining transparent and proportionate. When using this power, the regulator will have to seek the approval of the determinations panel, and its decision in turn will be subject to appeal to the Pensions Regulator Tribunal, and subsequently to the Court of Appeal.

The noble Lord raised the issue of trustees and the Telent case. This has now been resolved to the satisfaction of all parties, and is an example of how developments in the pensions market can be fast moving, and risks in the pension environment can change quickly. In that case, the regulator was able to use existing powers to install independent trustees. However, it has become clear that the “necessary” test constrains the regulator, who may only appoint a trustee if he is satisfied that there is no other option available, and must act almost as a last resort, as I said earlier.

The CBI commented on these amendments when they were moved in Commons Committee on 19 February 2008:

We certainly agree with that comment.

I hope that that explanation has satisfied the noble Lord and that he will withdraw the amendment.

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Lord Skelmersdale: I will withdraw the amendment, but I still have difficulty, not least with the Minister’s answer, which I will have to read with great care. I have difficulty because, as the Minister admitted, the Telent case did not need the “necessary” test. I accept that the “necessary” test is used in legislation covering another regulator. If the Minister could give me the reference at some stage—he does not have to do it now—I would be grateful.

There is no doubt that the regulator must have the power to remove trustees, either individually or as a block, in certain circumstances. We all agree on that. The question remains, how does he classify his judgment? Should it be “reasonable”, which has been defined in many cases on the statute book by the courts? I will look extremely carefully at what the Minister has said, and I will be particularly interested to read his—what will it be?—17th or 18th letter, with the reference to the legislation about another regulator. I beg leave to withdraw the amendment.

Amendment, by leave, withdrawn.

Clause 109 agreed to.

[Amendment No. 134B not moved.]

On Question, Whether Clause 110 shall stand part of the Bill?

Lord Skelmersdale: I should mention my noble friend Lady Noakes, now we are almost at the end of the Bill, who apologises for not being here to grill the Minister in her inimitable way. Alas, she had another appointment.

My noble friend and I gave notice that we wished to debate this clause because of concerns that had been expressed about the way in which the regulator is potentially usurping the proper role of trustees when valuing the assets and liabilities of a scheme. It takes the regulator into areas of judgment that are properly those of trustees. The Government have described the need for this clause in the Explanatory Notes. Paragraph 306 on page 46 states that,

Stated thus, Clause 110 seems unobjectionable. However, as is so often the case, what you read on the label does not fairly describe the contents. The amendment says nothing about prudence in the selection of actuarial assumptions. The regulator’s powers in Section 231 of the Pensions Act 2004, which are being amended by Clause 110, relate to the failure of the trustees and others to do certain things. The powers were not designed to be attached to judgmental issues such as pitching the regulator’s judgment about particular actuarial assumptions against those of trustees. The Government’s explanation of Clause 110’s amendment to this section does not tell the whole story.

I agree that the regulator should have appropriate powers. However, given the extensive parliamentary consideration given to the Pensions Act 2004, we should be wary of further extension without good evidence of need. The regulator has been consulting on guidance on actuarial assumptions, and this has

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sent shockwaves through those who still struggle to support defined benefit schemes. The regulator has signalled that he will “scrutinise”—this is code for something tougher—those schemes that do not use the long cohort for mortality improvement, or use underpinning improvement assumptions tending towards zero. I believe that I am correct in saying that most schemes at present use the medium cohort rather than the long cohort. This is a significant move, and one that has generated much controversy among pension providers; hence the need for this clarifying clause. The confusion that it is designed to clear up was the natural confusion felt by those who had no idea that the regulator should have the right to pronounce on judgments at this level, and who strongly resist such a move.

The decision on whether a long or medium cohort should be used is one of many that the trustees must make on the advice of their actuary. It would be wrong if the regulator was able to impose the choice of a long cohort, with no evidence that a risk-based approach will be used. The long cohort may or may not be the right route to follow, but the concern is that this will be imposed on a big-bang basis and produce huge shocks to the funding assumptions of employers. We know that the Government believe in a risk-based approach. The Pension Protection Fund is predicated on just such an assumption. However, there is no evidence that the regulator will apply a risk-based approach to forcing changes. The evidence from the consultation document suggests the reverse. Furthermore, the regulator intends to go back to March 2007, and could potentially unpick hard-fought agreements about recovery plans between trustees and employing firms.

This is the background to the additional power in Clause 110. The regulator has already moved beyond the basic approach that it is for the trustees to decide their actuarial assumptions on a prudent basis, and on the basis of actuarial advice. The regulator has various powers to back that up if the trustees are behaving improperly, including the power to appoint new trustees, which we have debated from time to time. Now the Government are seeking to give the regulator the power to overturn the trustees’ assumptions, even if they have been arrived at prudently on the basis of actuarial advice. It will be the regulator imposing the judgment over the trustees.

We fear that this is another nail being hammered into the coffin of the trust-based foundation of defined benefit provision. I shall listen with interest to hear whether the Minister can allay the fears that have been expressed by the CBI and some individual, large, defined benefit scheme employers. If this is another nail in the coffin of DB schemes, it cannot be the right thing to be doing.

2.30 pm

Lord McKenzie of Luton: I seek to allay the concerns of the noble Lord, Lord Skelmersdale.

Clause 110 addresses an issue which has arisen about the circumstances in which the Pensions Regulator can use its powers to regulate the scheme funding requirements for private sector defined benefit schemes.

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Section 231 of the Pensions Act 2004 provides the regulator with a wide range of powers relating to the scheme funding requirements. They enable the regulator to take action, for example, where there has been a breach of the legislation, or where the trustees and the sponsoring employer cannot reach agreement on a key aspect of their scheme’s funding arrangements. Those powers include a power to specify the actuarial assumptions to be used in a valuation of a pension scheme’s assets and liabilities.

One of the key responsibilities of a pension scheme’s trustees is to decide what actuarial assumptions are to be used in an actuarial valuation of their scheme. Legislation specifically requires the trustees to choose those assumptions prudently. The regulator has recently faced resistance in cases where it has queried the extent to which the trustees have complied with the requirement to choose actuarial valuations prudently, and its power to act in those circumstances has been challenged.

The actuarial assumptions used in a valuation are absolutely critical in establishing a scheme’s correct funding position and in determining an appropriate level of employer and, if appropriate, employee contributions to the scheme. In short, the purpose of the clause is to ensure that the regulator can use its existing scheme funding powers where the assumptions chosen by the trustees do not appear to be prudent. It is necessary to ensure that the regulator can take appropriate action to prevent increased risks to the security of scheme members’ benefits.

The noble Lord referred to the regulator consulting on longevity assumptions. That is an important issue, and the regulator’s consultation has provided the opportunity for a serious discussion of the issues. The regulator has undertaken a full consultation and is taking seriously the views raised. It would not be appropriate to comment on the outcome, because that would prejudge the consultation, but it is clearly in all our interests that longevity issues are tackled effectively and that we do not store up ever bigger problems for another day. Equally, we are clearly committed to ensuring that actions across the system are appropriate and proportionate. I understand that the regulator expects to publish its response shortly.

The noble Lord also raised issues around whether the regulator would use this power to impose long cohort assumptions. There are no standard assumptions to impose. The regulator will ensure that a scheme-specific approach is taken, as should all trustees as part of ensuring prudent technical provisions. It will not impose a long cohort assumption.

The noble Lord referred to the Association of Pension Lawyers, and he will be aware that it has written to DWP officials about the effect of this clause. The association was concerned that the clause gives the regulator new, wide powers and that it introduces subjective considerations by the regulator for the first time. The APL is also concerned that the clause is being introduced without sufficient consultation. As I said earlier, the power for the regulator to direct the actuarial assumptions to be used in calculating a pension scheme valuation already exists. The clause

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simply ensures that the existing power can actually be used where the actuarial assumptions do not appear to have been chosen prudently by the trustees.

We do not agree with the suggestion that the clause introduces subjective consideration by the regulator for the first time. The regulator’s scheme funding powers can be used only where it appears to the regulator that there has been a breach of the legislation. The regulator must therefore already decide in each case whether it considers that such a breach has occurred. Similar powers also already exist in respect of scheme funding recovery plans. The regulator can intervene if it considers that the trustees have not taken account of matters such as their scheme’s asset and liability structure, its risk profile, its liquidity requirements and the age profile of its members.

The noble Lord also referred to the description of the clause in the Explanatory Notes. He may be aware that we acknowledge that the description of the clause in the notes that accompanied the Bill on its introduction could have been better expressed. There is an intention to update those notes in subsequent versions of the Bill. I hope that the noble Lord will be reassured by what I have said.

Lord Skelmersdale: Perhaps I might respond to one or two of those points. I was well aware that there was a proposal to produce revised Explanatory Notes, but I am not sure whether they will be revised over the summer, or whether the notes will accompany the Act when it arrives on the statute book.

However, I had no idea that the description of Clause 110 was one of the revisions that was going to appear in that new document. I am grateful for that, and I am sure that the various stakeholders will also be grateful. Quite a lot of stakeholders are currently somewhat concerned. I will refer them to the Minister’s answer, so that they can give me further advice on this point.

Lord McKenzie of Luton: If it would help the noble Lord, the information that I have is that we expect to update the notes over the summer, so they should be ready fairly soon.

Lord Skelmersdale: I am very grateful for that, and there are plenty of people outside who will be even more grateful.

When defending the regulator’s decision to insist on long cohorts, the Minister talks as if the more prudence that is used in deciding actuarial assumptions, the better. That is at least a familiar argument. The Pension Protection Fund, which I mentioned in my opening speech in the clause stand part debate, insists that pension schemes are overfunded to 140 per cent before they can be let off the major part of the levy, regardless of the possibility that overpaying into a fund by that margin might actively harm the future prospects of a company. The same applies in this case. An overly prudent set of assumptions will mean that the company and the contributors will have to pay higher contributions than is necessary.

With no clear understanding of how a surplus is to be repaid, overpayment is most certainly not to the advantage of those involved. The question remains: who is the right person to look at each scheme individually

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and make a decision as to the correct set of assumptions that the trustees have made? I point out fairly forcefully that cohorts is only one of a number of assumptions that must be made on a case-by-case basis, using knowledge of the unique characteristics of the sponsoring company, the make-up of the contributors, and so on.

I am glad to have the Minister’s assurance, which I think I unravelled from his words, that the regulator will not enforce long cohorts. Have I got that right?

Lord McKenzie of Luton: I stress the point that issues of prudence are fundamentally a matter for the trustees, but the regulator clearly has a role, and it will be dealt with on a scheme-specific basis. You have to look at all the factors.

Lord Skelmersdale: That was not what I was asking. Was I right in understanding the Minister’s assurance that the regulator will not enforce long cohorts? I am sure that I wrote it down correctly.

Lord McKenzie of Luton: Yes, the noble Lord is right in his understanding; that is what I said.

Lord Skelmersdale: That is extremely helpful. None the less, we believe that the regulator is not the correct answer. If we continue down this route, we will end up with a one-size-fits-all definition of what every pension scheme will look like. Moreover, as I said, direct benefit schemes will continue on their downward spiral. As I said at the beginning, I will take advice on this. But I would be fairly surprised if we did not come back to this issue on Report.

Clause 110 agreed to.

Lord McKenzie of Luton moved Amendment No. 134C:

“(e) permitting the Regulator to authorise prescribed functions to be exercised on behalf of the Regulator by such persons, in such circumstances, and under such arrangements as the Regulator may determine.”

The noble Lord said: I shall speak also to government Amendments Nos. 141 and 141D. These amendments relate to the regulator’s ability to contract out its functions. The Government are committed to ensuring value for money when planning and delivering large-scale public sector projects and to using the skills, expertise and capacity of the private sector where appropriate. The regulator currently has the ability to contract out functions under the Pensions Act 2004, which states that the Secretary of State may make regulations for the regulator to delegate prescribed functions to prescribed persons.

The purpose of these amendments is to ensure that the Pensions Regulator has the flexibility to secure the best value for money if it decides to contract out any compliance functions. As the legislation currently stands,

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the regulator would have to identify preferred suppliers—the prescribed persons—to include in regulations before finalising contracts. In reality, the process of choosing the best functions to contract out, exploring the market for suppliers, identifying preferred bidders and then making a choice of supplier, requires careful planning. Amendments Nos. 134C and 141D will therefore place the emphasis on the prescribed functions that the regulator can contract out and remove the need to name the provider in the regulations.

In practice, that will mean that the regulator can undertake a more flexible procurement process with potential suppliers, and therefore be better placed to identify the best value-for-money approach. Over time, it will also make it easier and simpler for the regulator to change suppliers, again making it more likely that the regulator will secure the best value for money. In addition, under Section 6 of the 2004 Act, the Pensions Regulator currently has the power to do anything which is,

or is,

That is subject to the provisions of Schedule 1 to the Act. Paragraph 28 of the schedule makes specific provision for the regulator to make payments for expenses and fees for advice, as the Secretary of State may determine.

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