What duties do employers owe their employees?

The economic climate over the past decade has seen many employers try to reduce DB liabilities by closing DB schemes to future accrual and changing the measure of salary used to calculate benefits. Some employers are also withdrawing previous discretionary practices, such as granting favourable early retirement terms, as a way to limit pension liabilities.

Sometimes, an employer has power under the scheme rules to make these changes. In other cases, rule amendments are needed, usually requiring trustee agreement. An alternative approach is to put in place contractual arrangements outside of the scheme between the employer and its employees in which the employees agree to a change in their benefits.

Whichever method is used, recent cases have sounded a cautionary note about how employers introduce such changes. Whilst employers are entitled to take into account their own interests when amending their pension arrangements, they owe some duties to their employees in relation to how they go about such changes and breaching those duties could render the changes invalid.

Trustees should also be aware of these duties. They need to be able to establish whether changes introduced by an employer are valid so they know the basis on which they should be paying benefits.

Basic principle – duties owed by employers to members

Where employers have powers under scheme rules, such as amendment powers, they are generally entitled to exercise them in their own interests. However, they have an implied contractual duty to their employees not, without reasonable and proper cause, to conduct themselves in a manner calculated or likely to destroy or seriously damage the relationship of confidence and trust between employer and employee. This duty is often referred to as the “Imperial duty” after Imperial Group Pension Trust v Imperial Tobacco, the case which first formulated it in a pensions context.

When determining whether there has been a breach of this duty by an employer, there are a number of issues that need to be considered:

• the exercise of a discretionary power by an employer must be 'genuine and rational';
• the exercise of the power does not have to be “fair”;
• the test is a 'severe' one and the relationship between employer and employee must have been severely damaged;
• the test is objective, the impact on a “reasonable employee” should be considered; and
• the employer's financial and other interests are relevant.

A similar duty applies under employment law in relation to rights employers have under contracts of employment. This might, for example, catch decisions about awarding salary increases.

Some recent cases have shed some light on the precise nature of these duties.

IBM v Dalgleish

There have so far been 6 judgements in this case. In the main judgement, which is subject to appeal, the High Court held that IBM had breached its duties to members in the way it had implemented a restructuring of their pension arrangements. The changes included closing to future accrual, members agreeing pay increases would be non-pensionable and a new early retirement policy under which IBM would largely stop consenting to enhanced early retirements.

The High Court held that in considering the Imperial duty in relation to an employer’s exercise of powers under a pension scheme, the correct legal test was one of irrationality and perversity.
One way of breaching the Imperial duty is for an employer to breach members’ reasonable expectations of the way it will act. Reasonable expectations in this context means expectations engendered by the employer’s previous conduct. Past communications or changes in relation to the pension schemes can create reasonable expectations on the part of the members, at least in the short-term, that there will not be further changes to pension rights. The past communications to members in this case “were not simply statements and communications; they were intended to be, and were, acted upon by the members” when making previous choices about their pension benefits. Disappointing those expectations “was a very serious matter going to the heart” of the employment relationship.

BBC v Bradbury

At first sight, the IBM decision would cause significant concern for employers. However, the second recent case which considered the duty provides some comfort.

The BBC had offered members the choice of remaining active members of their current DB arrangement with future pay awards limited to 1% for pension purposes, or joining a new CARE scheme under which future pay awards were not subject to any pensionable cap. The member agreed to transfer to CARE. However, he later complained to the Pensions Ombudsman, that among other things, the BBC had breached its Imperial duty.

The Pensions Ombudsman held that the BBC was justified in seeking to impose the cap and that its decision was not irrational or perverse or one that no reasonable employer in its position would have adopted. In the light of the scheme deficit, its potential future liability, its resources and its overall obligations and the steps taken by it to address the problems it faced in relation to the scheme, the BBC had not breached its Imperial duties to the member.

The member appealed to the High Court who rejected his appeal. The member had failed to demonstrate that the BBC’s conduct had breached any “reasonable expectation” (as defined in IBM and paraphrased as an “expectation as to what will happen in the future engendered by the employer's own actions (and in relation to matters over which the employer has some control), which gives employees a positive reason to believe that things will take a certain course”).

The member had said the BBC breached its duty on a number of grounds: improper coercion, collateral purpose, age discrimination and lack of proper consultation. The court held that none of the inpidual grounds raised gave rise to a breach of the implied duty. In addition, it would require a very strong case for a number of such disparate objections (even arising out of the same conduct) to give rise, when taken together, to a breach of the implied duties if none of the objections by itself gave rise to such a breach.

View of the Ombudsman

The interest created by these cases will inevitably lead members to raise complaints with the Pensions Ombudsman alleging a breach of the Imperial Duty. One recent case demonstrates how the Ombudsman might approach such a complaint.

The employer was consulting about closing the scheme to accrual. During the consultation the employer said it would not consider requests for enhanced early retirement, but did not make clear what would happen after the consultation process. The Ombudsman held that the employer’s refusal to consider Mr Moulton’s application for enhanced early retirement was likely to damage the relationship of trust and confidence. The employer was ordered to consider his application taking into account the lack of clarity in the communications.

Conclusions

The outcome of each case turned on the facts. However, whilst it is clear that breach of an employer’s implied duties remains a “severe test”, the cases demonstrate that employers should tread carefully in restructuring pension arrangements and in the way that they communicate them to members. Past statements may restrict an employer’s ability to make certain changes in the future where promises have been made to members.

Where trustees are being asked to consent to amendments to scheme rules, they may wish to consider the past history of communications with members and whether members have any reasonable expectations that such changes will not be made. Likewise, where trustees are being asked to administer the scheme to reflect contractual agreements between employers and members, they may wish to consider whether any conduct of the employer might call the validity of those agreements into question.

Other things to be aware of...

The Chancellor has announced that the Treasury will consult to ensure that people are not charged excessive early exit penalties and are treated fairly when moving their pension to a company that offers flexible options to access their savings.

HMRC has temporarily suspended its list of recognised overseas pension schemes. The list should be available again from 1 July 2015 but will look significantly different.

The new Pensions Ombudsman has published a factsheet about remedies for non-financial injustice caused by maladministration. The Ombudsman says the “purpose of the factsheet is to provide guidance on our approach and the level of awards we are likely to make to compensate applicants who have suffered significantly as a result of maladministration. To bring us in line with industry practice, our usual starting point for awards will be £500 or more. In most cases, they will range from £500 to £1,000. But sometimes higher awards are necessary”.

The Pensions Regulator has added new questions to the scheme return for DC schemes to deal with the new governance requirements. The new questions concern the requirement for a Chair and compliance with charge capping on default funds.