the Court of Appeal backs the Pensions Regulator's powers to
impose penalties
The powers of the Pensions Regulator to impose financial
penalties on pension scheme sponsoring employers and those
associated or connected with them were recently given a boost by
the Court of Appeal in its ruling in the much publicised
Lehman/Nortel case (Bloom v the Pensions Regulator). The
court upheld the findings of the High Court whose judgment had
sparked great concern in the pensions and business restructuring
industry and allows the Regulator to impose financial liabilities
on companies in insolvency which rank higher up the order of
priority of creditors than would have been the case had the
liability been imposed before the company entered insolvency
proceedings.
This case arose from the collapse of the
Lehman Brothers and Nortel company groups. Both of those groups had
a UK subsidiary which operated a defined benefit pension scheme for
its employees which was in substantial deficit. In such
circumstances, the Pensions Regulator has the power (under the
Pensions Act 2004) to issue Financial Support Directions ("FSDs")
and Contribution Notices ("CNs") to sponsoring scheme employers and
those associated or connected with them (broadly defined as
companies within the same group structure as the sponsoring
employer). FSDs and CNs can require that cash funding or other
financial support be put in place for the benefit of the scheme in
question.
In light of the substantial deficits in these
two schemes (the Nortel scheme has an alleged deficit of £2.1
billion and the Lehman scheme £140 million) the Regulator decided
to impose FSDs on 25 companies in the Nortel group and 6 companies
in the Lehman group. The administrators of these companies appealed
the issuance of these FSDs.
The Court of Appeal unanimously upheld the
judgment of the High Court and ruled that where an FSD or CN is
issued (as here) after a company has entered insolvency
proceedings (i.e. administration or liquidation), the financial
liabilities imposed under an FSD or CN rank as an expense of the
insolvency process rather than as an unsecured provable debt. The
only exception to this is when an FSD or CN is issued after a
company has gone into administration and then moves into
liquidation. At this stage, the financial liability imposed under
the FSD or CN will rank only as an unsecured provable debt whereas
if the company does not go into liquidation, the liability remains
an expense of the administration.
The significance of FSD and CN liabilities
being classified as an expense of the insolvency process rather
than an unsecured provable debt centres around the fact that this
effectively grants the Regulator "super priority" status above all
creditors other than fixed charge holders and also means that the
proceeds of the FSD and CN take priority over the insolvency
practitioner's own fees.
This decision has sparked major controversy
and concern has been expressed that it will potentially hinder
effective company restructurings. It potentially severely depletes
any security other than that held by fixed charge holders and may
see lenders reluctant to lend to companies with defined benefit
scheme deficits without imposing stringent lending conditions (such
as demanding fixed charge security or a high rate of interest).
Unsurprisingly, as it strengthens its hand
when imposing an FSD or CN, the Regulator has welcomed the ruling
but did emphasise that it does recognise the importance of the UK
having an effective company restructuring and rescue process and
stressed that it is required by law to act reasonably when
exercising its powers and to have regard to the interests of those
directly affected by its use of these powers.
The case may yet reach the Supreme Court
although doubts have been expressed that even the highest court in
the land would be able to reach a different decision to the High
Court and Court of Appeal because of the way in which the Pensions
Act 2004 is drafted. Even if the Supreme Court is able to interpret
the law differently from the High Court and Court of Appeal, its
decision will take many months to be given and this means that (in
the absence of Parliamentary intervention in the meantime) there
remains a great deal of uncertainty for insolvency practitioners,
lenders and advisers when acting in relation to underfunded defined
benefit pension schemes.
