UK: High Court Strengthens The Pension Regulator’s Powers But Threatens UK Rescue Culture

Last Updated: 25 March 2011
Article by Mark Howard, Rupert Connell and Jon Yorke

Bloom and others v Pensions Regulator (Nortel, Re) [2010] EWHC 3010 (Ch) (10 December 2010)

The High Court recently considered the UK Pension Regulator's (the Regulator) powers against companies that have gone into administration or liquidation. In a landmark decision, the Court held that the cost of complying with a financial support direction issued by the Regulator would be an expense of the administration or liquidation, which in turn means that such costs are payable in priority to unsecured creditors, floating charge holders or indeed the administrator's own remuneration.

The multi-billion pound dispute involved the Regulator and the two estates of Lehman Brothers and Nortel Networks groups. Between the insolvents, there are significant employer debts owed to the pension schemes (£2.1 billion in the case of Nortel) and so the Pensions Regulator intervened to exercise its anti-avoidance powers as provided under the Pensions Act 2004 (PA 2004).

Under that legislation, the Regulator can issue "financial support directions" (FSD) if an employer participating in an occupational pension scheme is "insufficiently resourced". The financial support direction can require another group company – not necessarily participating in the pension scheme itself – to provide Regulator-approved financial support to further the obligations owed to its pension scheme. If the company fails to put forward satisfactory support mechanisms in response to an FSD, the Regulator can then issue a contribution notice (CN) against the company. This requires the company to make a monetary contribution to the pension scheme's assets (section 47 PA 2004) and such payment becomes a debt due from the company to the pension scheme trustees.

Earlier this year, the Regulator's Determinations Panel decided to impose FSDs against various companies in the Nortel and Lehman Brothers groups. The administrators accordingly sought directions from the Court as to the effect of an FSD. The Regulator, the Pension Protection Fund (PPF) and the Lehmans and Nortel trustees were all joined as respondents to the application. The PPF was joined as both the Lehmans and Nortel schemes are currently in PPF assessment periods.

The administrators asked whether liabilities under FSDs (including under any subsequent CNs) were provable debts in an administration of a company or, if not, how such liabilities would rank against other liabilities in a distribution of the company's assets. The Court held that:

  • If the Regulator issues an FSD before the company enters a formal insolvency process, any subsequent liability arising in connection with that FSD (including any CN issued for non-compliance with the FSD) will be a provable debt against the company and rank as an unsecured creditor claim in the company's insolvency.
  • However, if the Regulator issued an FSD after the company enters a formal insolvency process, any liability arising in connection with that FSD (including any CN issued for non-compliance with the FSD) will rank as an expense of the insolvency process. That expense would rank higher than the fees of an administrator under the Insolvency Rules.
  • As the Insolvency Rules applied at the time of the Lehmans and Nortel administrations, any liability arising from a CN issued for non-compliance with an FSD issued in an administration will be a provable debt (and consequently rank as an unsecured claim against the company) in a subsequent liquidation. However, the Insolvency Rules have now been changed so that the date for determining provable debts in the liquidation is now the date of the prior administration. This means that a subsequent liquidation could no longer convert an FSD from ranking as an expense into a provable debt. (The old Insolvency Rules will continue to apply to Nortel and Lehmans.)

The judge was remarkably reluctant to reach these conclusions, but found that as a matter of statutory interpretation – based on the House of Lords decision in Re Toshoku Finance (2002) – he could not find that FSDs were irrecoverable in insolvencies. As an FSD is issued at the discretion of the Regulator it was not a debt at the point of insolvency and therefore was not provable. This meant that it would have to be an expense if it was to be recovered in the insolvency. The judge added that the Regulator's power could be tempered by the requirement for it to act reasonably in imposing FSDs and/or CNs and that administrators, as a last resort, had the option to seek an order from the court to vary the priority of payment of administration expenses. But the judgment was almost an open invitation to the Supreme Court to overrule the decision. An application to appeal directly to the Supreme Court has been refused, but given the importance of this decision it is almost inevitable that this case will end up there.

Comment

The Court's judgment means that the Regulator has the power to impose a significant liability on companies going through an insolvency by issuing an FSD during the course of the administration or liquidation. The decision will concern lenders who could see the pension scheme – often the largest unsecured creditor – being given a "super priority" in an insolvency by the actions of the Pensions Regulator.

The ruling potentially affects any corporate group with a subsidiary that has a defined benefit pension scheme. The Insolvency Lawyers Association has reported that the following effects of this judgment are already apparent:

  1. insolvency practitioners are considering whether to accept appointments as the potential for an FSD to be issued could affect whether they would receive any remuneration;
  2. administrators already in office are faced with uncertainties in assessing the viability of continuing to trade, which appears contrary to the rescue culture, and ultimately whether or not they will receive any remuneration;
  3. for administrations where trading has ceased and the administrators are looking to make distributions, the decision casts doubt on whether administrators can proceed without risk of being held responsible later should a financial support direction or contribution notice be imposed after the distribution. This could delay the conclusion of administrations and increase costs if applications to extend the period of administrations are required;
  4. it is affecting the approach to lending generally, as lenders are reviewing the value of floating charge security which ranks behind the expenses of administration;
  5. lenders are concerned that insolvency practitioners will seek indemnities for being appointed and this would necessarily affect lending costs and terms; and
  6. rating agencies are seeking further comfort on the uncertainties which puts transactions in doubt, or delays them.

Even before the inevitable appeal is heard, the Insolvency Service is considering whether the Insolvency Rules require amending to reverse the effects of this decision.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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