Lloyds judgment – equalising for the effect of unequal GMPs

Background

In 1978 the Government allowed final salary pension schemes to “contract out” of the State Earnings-related Pension Scheme (“SERPS”).  This allowed employers and employees to pay lower National Insurance contributions in return for the employees not being eligible for any SERPS benefit when they retired.  One condition was that the pension scheme had to provide these individuals with Guaranteed Minimum Pensions (“GMPs”) on retirement – intended to equate broadly to the amount of SERPS forgone.

The calculation of GMPs, and the terms of payment, were set out in legislation and they are inherently different for men and women.  First, they are payable from 65 for a man and from 60 for a woman; secondly, the rate of accrual is higher for a woman (because of her shorter working life to age 60).  Apart from being unequal, they are also complicated: rates of increase before and after retirement are prescribed by legislation and will tend to be different from the rest of a member’s pension.

Since 17 May 1990, when the Barber judgment ruled that men and women had to be provided with equal pensions, the question has remained as to whether it is necessary to “equalise GMPs”.  (Because the inequalities stem from legislation, this is not strictly possible; rather it is necessary to adjust overall benefits, to compensate for the inequalities in GMPs, so that overall benefits are equal for men and women.)

The Lloyds Judgment

The trustee of certain schemes sponsored by the Lloyds Banking Group brought the proceedings to obtain the ruling of the Court on a number of issues:

1. is there an obligation to equalise benefits?
2. if so, what method should be adopted in order to equalise benefits?
3. for what period in the past can a member claim in respect of previously underpaid benefits?
4. what should be done in relation to benefits which have been transferred into, and out of, the relevant schemes?

There were four methods put forward to the Court for consideration: A, B, C and D; methods A, C and D were sub-divided further into variations.

• Method A breaks a member’s pension down into different parts, for instance GMP and non-GMP, and equalises each unequal part separately. Thus, if (typically) the woman would have a higher GMP and so a lower non-GMP element, the equalised pension is the sum of the female GMP and the male non-GMP: an amount greater than would have been available to either gender in the absence of equalisation.
• Under Method B, the unequalised male pension is compared with the unequalised female pension each year and the greater amount is paid as the equalised pension. In schemes where the normal retirement age is less than 65, it is common for the unequalised female pension to be higher than the male pension until age 65 and for the unequalised male pension to be higher thereafter.  In such cases this method again produces a pension greater than would have been available to either gender without equalisation.
• Method C compares cumulative pensions to date so that, in the situation where the male pension overtakes the female pension at age 65, account is taken of the additional amounts paid to the man for equalisation prior to age 65 and will be offset against future increases (the effect in this scenario being that the female pension continues to be the “equalised” pension until the total cumulative payments to a man overtake the total payable to a woman. A variant – “method C2” – includes the payment of simple interest, at 1% per annum above base rate, on the equalisation payments, which has the effect of delaying the “break-even age”.
• Method D places an actuarial value on the unequalised male and female pensions to ascertain which is higher. The excess of that higher value over the member’s unequalised value is then converted into additional pension.

For each equalisation method described, the judge noted that a distinction needs to be drawn between deferred benefits and those in payment.  For deferred members GMP inequalities can be addressed in advance of pension payments starting.  For pensioners one must consider the treatment of past (unequal) payments.  This will be more difficult if accurate historical records are not available.

The judge found as follows on the various issues.

1. Schemes are required to equalise overall benefits to compensate members for the inequalities inherent in GMPs.
2. The principle of minimum interference must be observed. Method D, because it is based on actuarial assumptions (and so is unlikely to produce correctly equalised pension payments for any particular member, offends the principle of minimum interference from the members’ point of view, so is not an acceptable method of equalisation.  Methods A and B will be more expensive than method C, so offend the principle of minimum interference from the sponsor’s point of view, so trustees are not required to use either of these methods, although they do constitute methods of equalisation.  The judge’s conclusion was that, without employer consent for a different method, C2 must be adopted.
3. Scheme should make backpayments to members who have already retired, to compensate them for inequalities experienced to date. There is no limitation period in respect of claims to backpayments under legislation but, if schemes have a forfeiture rule, they may use this to limit the period in respect of which backpayments are made.  The judge ruled that simple interest should be added to backpayments, again at 1% per annum above base rate.
4. Trustees should equalise benefits that have been transferred into their scheme. However, noting that transfer values out may have been paid to defined contribution arrangements, consideration of the treatment of transfer out was postponed.

A further hearing is expected to consider the issue of transfers out and of whether there should be a de minimis threshold below which no equalisation is required.

GMP conversion

Conversion of GMPs into ordinary scheme pension is a procedure that has been available for some years now, though has not been used (in the light of uncertainties about the need to equalise for the effect of GMPs).  It was suggested to the Court that the regulations permit GMP conversion in relation to earners (and following the death of the earner, in relation to survivors) but not in relation to people who are survivors at the time of the conversion.  The Court confirmed that the regulations do enable GMP conversion in relation to those who are survivors at the time of conversion.

Remaining difficulties

Many schemes are still reconciling their GMP data with HMRC, so will not be in a position to undertake equalisation until this is complete.  Perhaps more significantly, confirmation will be required from HMRC as to whether there will be any Lifetime Allowance or Annual Allowance implications for members whose benefits are increased (in most cases by a very small amount) as a result of equalisation.  Clients are best advised, therefore, to await further guidance from HMRC and for the further hearings in the Lloyds judgment.  It is possible also that the judgment may be appealed by Lloyds.

In the meantime, clients should consider how to deal with requests for transfer values and trivial commutation.