DWP unveils complex new winding-up priorities

Draft regulations have been issued for consultation¹ that give non-pensioners a greater share of the available funds when defined-benefit occupational schemes are wound up. To an extent the new rules on priorities on winding up are a stop-gap measure. The government is proposing to introduce a pension protection fund to safeguard members of schemes where the employer is insolvent. In addition, new Regulations are planned to prevent solvent employers walking away from underfunded schemes without meeting their pension promise in full.

New order

The new Regulations, issued by the Department for Work and Pensions (DWP), do nothing to make more funds available; they simply provide for it to be divided up in a different way. The Regulations remove the high priority currently afforded guaranteed minimum pensions and, while retaining a high priority for pensioners, place increases to their pensions in a lower priority category than previously. The pensions of current members and deferred pensioners are split into two, with one part being given greater protection.

As is currently the case, scheme expenses and debts to third parties have to be met first under the new priority order. Thereafter the new priority order is as follows:

(a)pensions or benefits derived from additional voluntary contribution (first, as now);

(b)pensioners: pensions or other benefits in payment, excluding annual increases;

(c)non-pensioners - first category: a proportion of accrued pension, other benefits or future benefits relating to pension credits (excluding increases) calculated using a formula based on the length of time a member has been contributing to a scheme;

(d)non-pensioners - second category: the proportion of accrued pension, other benefits or future benefits relating to pension credits not covered within (c) and refunds of contributions to members with less than two years' service (excluding increases);

(e)pensioners' indexation: increases in relation to (b);

(f)non-pensioners' indexation: increases in relation to (c); and

(g)non-pensioners' indexation: increases in relation to (d).

Calculation for current members

As the DWP claims, the new order does protect current members with the longest service most, but not in direct proportion to their length of membership. One member with half the length of service of another will not, as might be expected, have half the rights of the other member in the higher category (category (c)). In fact, the person with the shorter service would have one-quarter of the other's accrued rights in the higher priority category. The value of rights in the higher category is calculated by assessing the deferred pension in the normal way and then multiplying that figure by the number of years of membership that member has and dividing by 40.

Take two members both with pensionable earnings of £36,000, one with 10 years' membership and the other with five. If the scheme has an accrual rate of 1/60th, the deferred pension of the long-serving member will be £6,000 (1/60 x 10 x £36,000). The portion of that member's pension in the higher priority category would be the deferred pension multiplied by 10 years and divided by 40 (ie £6,000 x 10 ÷ 40 = £1,500). The portion of the other member's deferred pension of £3,000 (1/60 x 5 x £36,000) in the higher category would be £375 (ie £3,000 x 5 ÷ 40). So the member with half the service has one-quarter as much protection as the longer-serving member.

If a member had one-third as much service as another then that member would have one-ninth as much pension protected.

Early effective date expected

The consultation will close on 3 December 2003, and the government is intending to lay the Regulations by early 2004.

¹"Amending the statutory priority order: Occupational Pension Schemes (Winding Up) (Amendment) Regulations 2004", available from the DWP website (www.gov.dwp.uk via "resource centre", "Consultation papers" and "2003").