Publications

Bulletin 7 Summer 1994

Bulletin Questionnaire

This is issue seven of our Bulletin, which we have now been producing for two years, about one every four months. We are keen to make sure we are providing you with useful information in the right format.

Enclosed with this issue is a short and simple questionnaire. We know you are all busy people and that you loathe completing questionnaires - as indeed we do! Our short questionnaire takes less than a minute to fill in and to show our appreciation we will donate £1 to charity for every completed questionnaire returned - we hope we will be writing a cheque for £1,500! Please don't disappoint us!

Pensions Bill White Paper

The long-awaited White Paper has now been published. As expected, and as indicated by various ministerial pronouncements, it is a watered-down version of what might have been.

The Pensions Bill will, therefore, appear in the next session of Parliament minimum solvency levels, compensation scheme and all.

Although not a Green Paper it is still in some respects a discussion document and further amendment may be expected as it passes through the House.

Employer Related Investments - when trustees can continue to hold investments over the 5% limit

BESTrustees was recently involved as a trustee of a scheme with employer-related investments in excess of the 5% limit where, for reasons specific to the particular scheme, it would have been detrimental to the interests of the scheme members to reduce the self-investment to below 5% of the fund value, within the prescribed timetable.

The High Court determined that the Trustees Act 1925, which provides that a trustee shall not be liable for breach of trust by reason only of his continuing to hold an investment that has ceased to be authorised by the trust instrument or by general law, should take precedence over the self-investment regulations in the Pensions Act 1993.

The following case report is reproduced by kind permission of Simmons & Simmons who acted for BESTrustees and the other trustees of the scheme.

Case Report

This case was where a point of general interest arose concerning the interaction of Section 112 of the Pension Schemes Act 1993 (and the regulations made under it) with Section 4 of the Trustee Act 1925:

Broadly, Section 112 of the Pension Schemes Act 1993 prevents trustees from holding more than 5% of the market value of a pension scheme's assets in "employer - related investments".
Section 4 of the Trustee Act 1 925 provides that trustees shall not be liable for breach of trust by reason only of continuing to hold an investment which has ceased to be an investment authorised by the trust instrument or by the general law.

The Decision

It was held that, where an "employer related investment" ceases to be authorised under Section 112 of the Pension Schemes Act 1993, the trustees will not be liable for breach of trust if they decide to retain that investment, provided their decision to do so is made exclusively on investment-related considerations. In other words, the restrictions under Section 112 of the Pension Schemes Act 1993 do not exclude the operation of Section 4 of the Trustee Act 1925 but take effect subject to it.

Commentary

The decision is of considerable practical importance because:

· where a scheme which was formerly within the 5% limit subsequently exceeds that limit (as a result, for example, of fluctuations in the relative values of its assets, or the payment of a particularly large transfer value) trustees will not be forced to realise "employer - related investments", provided that they consider that there are good investment reasons for retaining them;

· where a pension scheme exceeded the 5% limit on 9th March 1992 (being the date the restrictions were introduced), Section 112 requires trustees to realise certain "employer - related investments" by specified dates which vary according to the type of investment. In the light of the decision, trustees are not obliged to realise any such investment by the specified date, provided, again, that there are good investment reasons for retaining it.

It should be noted that the decision does not:

· allow trustees to make any further "employer - related investments" if they are already up to the 5% limit;

· detract from the trustees' general duty to consider regularly the need to diversify the schemes' investments and to consider the suitability of a particular investment in relation to the needs of the scheme;

· detract from the trustees' duty to monitor regularly whether the scheme exceeds the 5% limit and, if it does, to consider what steps, if any, should be taken;

· affect the trustees' duty under the Occupational Pension Schemes Disclosure of Information Regulations 1986 to give in the annual accounts particulars of any "employer - related investments" and, if they exceed the 5% limit, details of the action which has been taken to reduce the excess.

Note:

This summary only deals with the case in brief and may be misleading if relied upon as an exhaustive explanation of the legal issues involved. If any matter referred to in it is sought to be relied on, further advice should be obtained. Please contact BESTrustees on 071-329 4307 or Simmons & Simmons on 071-628 2020.

Pension Schemes Use of Derivatives

Since the London International Financial Futures Exchange began 12 years ago they have seen meteoric growth in their market. The extent to which pension funds use these instruments is less clear.

The 1990 Finance Act clarified the tax position for pension funds (and authorised unit trusts). As John Major said in his only Budget as Chancellor, "This will enable them to use futures and options without fear of a tax charge".

His efforts to reduce uncertainty put derivatives in a more favourable tax position than the underlying security. It is now possible for a pension fund to be taxed as a trader in, say, ICI shares if it could be proved that its activities were of a trading nature. It is no longer possible, however, for a pension fund's activities in ICI options or the FTSE future to be taxed as trading irrespective of the motives behind those activities, irrespective of the frequency of the activities and irrespective of the results.

This year for the first time the NAPF annual survey included questions on derivatives. From over 500 respondents, 28% use futures and options, 57% use neither, and 15% use one or other but not both.

Another major annual survey by PDFM divided traded options and index futures. The findings were that for options 12% use them, 3% have done so but don't now, 28% may use them, 26% have not considered it and 31% have considered it but regard it as inappropriate. Equivalent figures for index futures are 17%, 2%, 27%, 24% and 30% respectively.

Other studies asking similar questions include the surveys by Greenwich Associates and Buchanan Partners, which appear to show more use of derivatives.

If any conclusions can be drawn it may be that roughly a half of large and medium-sized funds either do use, or have authority to use, some form of derivatives, about a quarter have not thought about it, and about a quarter have decided against.

Trustees contemplating allowing their managers to use derivatives should ensure that the scheme documentation permits the use of such instruments and should ensure that the management agreement contains appropriate guidelines and restrictions on their use.