UK: Borrowers With Pension Schemes: Risks And Issues For Lenders In The United Kingdom

Defined benefit pension schemes have become a crippling cost for many companies. This is especially true in the UK, where liability within those schemes and the powers of their trustees and of the UK Pensions Regulator to demand funding can cause issues for secured creditors of the company.

Reprioritising the Pensions Debt

The obligations of the borrower to its pension scheme are unsecured and, therefore, generally rank behind a secured creditor. However, whilst having stopped short of giving statutory priority on an insolvency to the pension scheme, Parliament over recent years has enacted legislation to give pension schemes a stronger position and, to some extent, reprioritise their rights with respect to other creditors. In particular, two changes have occurred:

Encouraging the Granting of Security to Pension Schemes. The triennial valuation of the pension scheme determines the amount of ongoing payments into the scheme required to make good any deficit and, since the UK Pensions Act 2004 (the "Act"), the trustees of the scheme must agree to the terms of any valuation. If they do not agree, then the Pensions Regulator (the "Regulator") can impose its own valuation and payment schedule. This gives the company substantially less power in deciding the repayments of the pension liability and, in particular, the Regulator encourages the trustees to look for additional security in order to keep the payments low.

As a result, many companies are seeking to provide either parent company guarantees or charges over assets to the pension scheme. This would not override any existing obligations to a secured creditor, but the borrower is often under pressure to renegotiate with the secured creditor in order to provide charges to the pension scheme. Historically, trustees have received second-ranking security, but they are putting increased pressure on companies to give first-ranking security on specific assets. Granting security also reduces the size of the Pension Protection Fund levy which, being an annual tax on pension schemes, can often run into six or seven figure sums, which may lead lenders to agree to give trustees first ranking security on some assets in certain circumstances.

The Reach of the Regulator. The Regulator was also established by the Act and was given powers to demand, again as an unsecured debt, payments into the pension scheme in certain circumstances from associated and connected parties of a pension scheme employer. "Associated" and "connected" are defined in the Insolvency Act 1986 and include directors of the company and significant shareholders. The obligation to make payment to the pension scheme, particularly on the part of directors, has had a very significant effect on the attitude of companies towards the pension scheme. In particular, they are discouraged in financially difficult times from paying liabilities to any other creditors, including secured creditors, when no payment is being made to the pension scheme. This can extend to interest and scheduled repayments, as well as prepayments, of loans when companies are unable to make due payments to the pension scheme because of cash-flow issues. As a result, directors of companies with defined benefit pension schemes are increasingly unwilling to make any due payments when approaching insolvency and find protective filings for administration more attractive.

Action of the Pensions Regulator Against Lenders

In general, the Regulator's powers to extend the liability beyond the company that has the pension scheme do not extend to creditors. However, the definition of "associate" which is used in the Act relates to any party that has "control" over the company with the pension scheme or over its group of companies. A creditor that exercises power over and management of a company may find itself to be an associate for these purposes. In particular, upon the occurrence of a default, a lender may be able to make or veto managerial decisions. Furthermore, a creditor which takes equity either by appropriation of the company's shares or by some form of debt for equity swap may find itself to be a shareholder which has "control" (generally held to be a shareholding of one-third or more of voting shares).

In these circumstances, the creditor itself may be at risk of claims by the Regulator. The Regulator may issue a contribution notice demanding immediate payment in circumstances where an action has been taken which has reduced the security of the pension scheme as a creditor or where it is intended that the action should reduce the amount payable to the pension scheme or its chances of being paid. The Regulator may issue a financial support direction demanding that some financial security be given to the pension scheme where the company with the scheme is "insufficiently resourced" for its pension liabilities and it is reasonable to issue a direction. The legislation is still young, and the Regulator has yet to take this final sanction against any lender, but the actions of lenders to protect their own position may inevitably lead to a reduced security for unsecured creditors such as the pension scheme, and the Regulator has proved itself keen to engage with any party who has some control and the financial strength to assist the pension scheme funding.

The legislation does not make the process of issuing a financial support direction or a contribution notice a quick one, and the Regulator generally uses the process to engage with the relevant parties in an attempt to gain assistance and, where necessary, payment in order to avoid the use of its powers. Early engagement with the Regulator to discuss any concerns either it or the trustees of the pension scheme may have generally keeps any costs or demands to a minimum.

Dealing Effectively with the Pension Risk

The increased cost and demands of a defined benefit pension scheme on a borrower should not prevent secured creditors from providing financing to such companies. A degree of caution, however, is needed. In particular:

  • Due diligence should establish the funding level of the pension scheme. An analysis of the present demands and likely future demands of the pension scheme should indicate the effect of the pension scheme on cash flow. In particular, the accounting assessment of the pension deficit is much less representative than an analysis of the funding valuation and present asset and liability levels.
  • If any requests are received to release security so that charges can be given to the pension scheme, it should be borne in mind that these charges are expected to be long term, often for the period of life of the pension scheme.
  • If the creditor itself is likely to become an associated party and vulnerable to attack by the Regulator, it is well to approach the trustees and the Regulator early to ensure that they have no intention to take action against the creditor. The Regulator will grant clearance in certain circumstances which then precludes it from taking action until circumstances change.
  • Given that enforcing share security may result in a creditor being at risk of claims from the Regulator, lenders may wish to push for asset security in addition to share security.

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.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
 
In association with
Related Video
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Check to state you have read and
agree to our Terms and Conditions

Terms & Conditions and Privacy Statement

Mondaq.com (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

Use of www.mondaq.com

You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about Mondaq.com’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.

Disclaimer

Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.

Registration

Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.

Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to unsubscribe@mondaq.com with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.

Cookies

A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

Log Files

We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.

Links

This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.

Mail-A-Friend

If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.

Security

This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to webmaster@mondaq.com.

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to EditorialAdvisor@mondaq.com.

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at enquiries@mondaq.com.

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at problems@mondaq.com and we will use commercially reasonable efforts to determine and correct the problem promptly.