The duties of trustees and employers in situations where their interests may conflict

Simon Pilcher examines the duties of trustees and employers in situations where their interests may conflict

In most pension schemes two bodies exercise most of the important powers; the company which acts as the principal employer of the scheme and the trustees who are appointed to administer the trust. Although the same persons who take decisions on behalf of the principal employer may also act as trustees of the scheme the roles of the trustees and the principal employer are quite separate.

Basic role of trustees

The role of trustees can be broken down into two main areas. The first is to ensure the performance of a number of administrative tasks such as the receipt of contributions, investing scheme assets and paying benefits to members. On a day to day basis most trustees delegate these tasks to others. Secondly, trustees usually have a number of other powers and discretions vested in them such as:

• distributing lump sum death benefits
• returning surplus funds to the employer
• determining members' entitlements in circumstances such as ill-health
• deciding whether to make or accept bulk transfers to and from other schemes
• considering changes in scheme rules.

Trustees' relationship with principal employer

In exercising these powers and discretions, the trustees must comply with their fiduciary duties under trust law and in particular their duty to act in the best interests of members of their scheme, but what does this mean in practice? Often the principal employer will need to seek trustee consent to some action eg. on the merger of its scheme with another following a company acquisition. When faced with this situation what stance should the trustees take to proposals put forward by the principal employer?

In considering this question, the recent decision by the Vice-Chancellor Sir Richard Scott in Edge v The Pensions Ombudsman is of great interest.

The case concerned steps taken to reduce a statutory surplus in the ITB Pension Fund. This required a deed of amendment between employers and trustees. An agreement was reached between the employers and trustees whereby the employers' contribution rate was reduced (worth £10.9 million), members' contribution rates were reduced (worth £2.9 million) and members who were in service on 1 April 1994 were granted an additional service credit (worth £6.6 million). Some pensioners, who did not benefit from any of the improvements, complained to the Pensions Ombudsman. The Pensions Ombudsman upheld their complaint on the basis that the trustees had not properly exercised their discretion in agreeing to the necessary deed of amendment.

He concluded that the trustees had breached their duty to act impartially between beneficiaries. Although he recognised that this did not mean the trustees had to use the surplus to benefit everyone equally, he asserted that "the discretion to exclude beneficiaries must not be the result of undue partiality towards the interests of the preferred beneficiaries." The trustees had justified excluding pensioners on the grounds that they had enjoyed improvements in the past and their benefits were already index-linked. The Ombudsman decided this was not a valid reason. The Vice-Chancellor decided that the Ombudsman was acting outside his role, and that he was judging the fairness of the decision, which was not his task, but that of the trustees.

In coming to his decision, the Ombudsman seems to have concluded that the need for employer consent was the real reason for the Trustees' exclusion of certain beneficiaries. He thought the trustees did not negotiate hard enough with the employers to obtain their agreement to additional benefits for pensioners. They had decided to concentrate benefit improvements on employees, and to reduce member contribution rates, which in turn allowed the employers (who under the rules were obliged to pay at least matching contributions) to reduce their contributions to the scheme.

The Vice-Chancellor emphatically disagreed with the proposition that the trustees were not entitled to take any account of the position of the employers. He noted that the employers played a critical part in the scheme, having to pay contributions to keep it solvent and to employ persons willing to join the scheme and pay member contributions. He also noted that the surplus itself was calculated on the basis that future contributions would be made. He thought it "obvious that the continued viability of the respective employers was something that, in the interests of the pension scheme and its members as a whole, the trustees were entitled to want to promote."

The Pensions Ombudsman suggested that, since the employers had to consent to any proposals, the trustees should have limited themselves to promoting the interests of the members to the exclusion of the employers' interests, as the employers could look after themselves. The Vice-Chancellor said:

"If the trustees had chosen to adopt such a starkly confrontational role as is suggested by the submission, they would have been entitled to do so. But their failure to do so did not, in my judgment, take them outside the spectrum of possible stances that a reasonable body of trustees could properly adopt. They were not obliged to deal with the employers at arms length as if bargaining over some commercial deal. The Pensions Ombudsman concluded that the trustees "had attempted to represent both sides of the negotiations at the same time, and only make such recommendations as they felt to be fair to everyone involved with the Funds", including the employers. I would, for my part, have thought that such an attempt as that would have been beyond reproach and exactly what responsible pension fund trustees ought to have done."

The particular stance that a set of trustees should adopt will greatly depend on the individual circumstances of the case. The above passage should not be seen by trustees as authority that they will be safe if they follow the employer's wishes on the grounds that they are allowed to take them into account. Furthermore, the Vice-Chancellor expressly allows trustees to take a "starkly confrontational role" if they want to and that seems to be within the spectrum of possible stances for a reasonable body of trustees.

Role of principal employer

The principal employer is usually the company that will have set up the scheme and appointed the first trustees. Apart from this original role the principal employer will have a number of continuing powers (some or all of which may be subject to trustee consent) which usually include the following:

• to change benefit levels
• to admit other companies to the scheme
• to augment benefits in specific circumstances
• to trigger the winding up of the scheme
• to amend the rules of the scheme.

Employer's duty of good faith

In recent years, a principle of an implied duty of good faith (or "trust and confidence" as it is sometimes called) has been developed by the Courts. Although this was first expounded in a pensions context in the case of Imperial Group Pension Trust Ltd and others v Imperial Tobacco Ltd (1990) it has been referred to in employment law for much longer.

The Imperial case arose out of the takeover of Imperial Tobacco by Hanson plc. The Imperial scheme had been predator-proofed, so that on a takeover of the company the scheme would automatically be closed and any surplus applied for the benefit of the members. The Court was asked to consider whether in construing the rules of the scheme company consent was required to increase the level of pension increases and if it was, whether there were any restraints on the company's exercise of its power. The then Vice Chancellor, Sir Nicolas Browne-Wilkinson said:

"the company's right to give or withhold its consent to an amendment ... is subject to the implied limitation that the right shall not be exercised so as to destroy or seriously damage the relationship of confidence and trust between the company and its employees and former employees."

He went on to say that:

"... the obligation of good faith does require that the company should exercise its rights (a) with a view to the efficient running of the scheme established by the fund and (b) not for the collateral purpose of forcing the members to give up their accrued rights in the existing fund subject to this scheme."

In other words, the company could not say to the members that it would never agree to discretionary pension increases in the future as a way of inducing the members to leave their existing scheme (where all surplus on winding up had to be applied for members' benefits) and join another with higher guaranteed increases but without the right eventually to enjoy the surplus.

The Imperial case did leave some questions unanswered, in particular whether the employer's duty of good faith is owed to and can be enforced by the trustees of the scheme as well as the members. This point was considered in the determination of the Pensions Ombudsman in Wheeler v NBC Pension Trustees Ltd (1996) - the National Bus case.

On privatisation of the bus industry, the Government, effectively acting as principal employer to the National Bus Scheme, proposed a package of amendments which altered the basis of indexation of benefits and guaranteed funding in the future, but amended the winding up rule to provide that any surplus remaining should be returned to the Government. The existing winding up rule provided that surplus was to be used to augment members' benefits. Initially the trustees declined to agree to the changes but eventually agreed after the employer threatened to suspend its future contributions if it did not. The Ombudsman decided that the employer had breached its duty of good faith, quoting the following passage from the Imperial case:

"In my judgment, the obligation of good faith requires that the company should not exercise its rights for the purpose of coercing that class to give up its rights under the existing trust. The duty of good faith requires the company to preserve its employees' rights and pension fund, not to destroy them. If there are financial and other considerations which require the fund to be determined, so be it. But if the sole purpose of refusing to consent to an amendment increasing benefits is the collateral purpose of putting pressure on members to abandon their existing rights (including the right to the surplus on determination), in my judgment the company would not be acting in good faith."

The Ombudsman went on to say that:

"Although the coercion in that case was alleged to be against the members themselves, I see no reason why an employer should not equally breach the duty of good faith when such coercion is applied against scheme trustees."

This obviously has implications for scheme mergers where an employer may be inclined to threaten the trustees with terminating liability to make further contributions to the scheme if they do not agree to a merger.

Conclusion

We have seen cases where the trustees can take into account the interests of the employers, and that employers cannot just take into account their own interests. This does not mean that an employer is effectively under the same duties as the trustees of the scheme. The important distinction is that the employer's duty of good faith is not a fiduciary duty. This was considered in the Imperial case and confirmed by Robert Walker J in National Grid v Mayes (1997) (see Mark Kowalik's article in the September 1997 bulletin).

There are limits on the employer's power, the exact extent of which are being developed by the Courts on a case by case basis. On the other hand, while trustees can take into account the employer's interests, this would appear to be limited to the implications for scheme members, such as the need for the continued viability of the employer to ensure the continuation of the scheme for the benefit of members.