A recent decision of the High Court, backing the PPF's hard-line approach to schemes which appeal their risk-based levy on the basis that their D&B failure score was wrong, serves to demonstrate just how costly it can be if you allow your levy to be assessed on the wrong basis.
The quality of its data is fundamental to the efficient operation of any pension scheme. Data is generally thought of as meaning member data: age, length of service, final pensionable salary, and so forth. Inadequate, inaccurate or incomplete data can lead to the wrong benefits being paid at the wrong time, and the risk of a Pensions Ombudsman claim for (amongst other things) maladministration; disappointed expectations; and distress and inconvenience.
But the concept of 'data' also extends to the information on the basis of which a sponsoring employer's insolvency risk is assessed by Dun & Bradstreet. This produces a 'failure score', which is an integral part of calculating a scheme's risk-based levy. And getting this wrong, however inadvertently, can have extremely costly consequences.
The PPF has always taken a tough stance with those schemes which claim that their risk-based levy is too high because the sponsor's failure score has been assessed on the wrong basis. Until recently it was even prone to making very pointed, even aggressive, assertions that a risk-based levy calculation had never been overturned by the PPF Ombudsman; and that interest would be charged on any levy payments made late due to an unsuccessful appeal against the sponsor's D&B failure score.
Some schemes have now enjoyed success before the PPF Ombudsman. However the decision of the High Court in the West of England Ship Owners Insurance Services case has potentially narrowed, quite considerably, the limited scope that trustees and sponsors previously enjoyed to challenge their failure score (and, through it, the risk-based levy due to the PPF). We look here at why the PPF continues to take such a hard line about incorrect failure scores, and the basis on which the courts have now seemingly approved such a robust stance...
Calculating the risk-based levy
All schemes must pay a levy to the Pension Protection Fund, and a significant proportion of this is risk-based. Part of the calculation of the risk-based element includes assessing the insolvency risk attaching to the sponsoring employer: this makes good sense as the more likely a sponsor is to go insolvent, the more likely the PPF is to have to pick up the pieces (and meet the cost of any shortfall in that scheme's funding position).
This insolvency risk is assessed by means of a so-called 'failure score' attributed to the employer by the ratings agency Dun & Bradstreet, which will be an integer ranging from 1 to 100. The higher an employer's failure score, the less likely the perceived risk of it going insolvent, and hence the lower the 'multiplicand' that is applied to the risk-based levy formula.
D&B failure scores are generally calculated on the basis of publicly-available information, ranging from judgment debts entered against the sponsor to its statutory accounts filed each year with Companies House. It is possible (and for some employers customary) to 'manipulate' their failure score by ensuring that the critical elements which D&B look at are in the best possible shape at the time that they will be assessed. This 'optimisation' is of course perfectly legitimate, and the PPF itself stresses that it is the responsibility of sponsors and schemes to ensure that their failure score is as accurate and healthy as possible.
The West of England case
The top company in the West of England group was a Luxembourg-based entity, and accordingly its failure score was assessed by D&B's Luxembourg branch. By contrast with what is common practice in the UK, D&B does not customarily inspect public documents filed with the Luxembourg companies registry. Furthermore, neither they nor the PPF make any specific mention in literature or guidance of this exception to the well-publicised general rule. The PPF does however regularly stress that it is a sponsor's responsibility to ensure that its failure score is based on full and accurate information about the employer's, or its group's, financial position.
There can be no prizes for guessing what happened next: all requisite regulatory filings were made in Luxembourg but the information was not provided independently by West of England to D&B; the group's failure score was assessed on the basis of incomplete information; it went through the floor; and the scheme's risk-based levy followed suit and hit stratospheric levels. The none-too-happy trustees of the West of England scheme, backed by their equally upset sponsor, sought to have this reconsidered by the PPF. When its decision was to uphold the original failure score (and hence risk-based levy) they appealed to the PPF Ombudsman.
The determination of the PPF Ombudsman
In February 2013 the PPF Ombudsman ruled in favour of the scheme's trustees. It felt quite strongly that "trustees cannot reasonably be penalised because they failed to guess that D&B operates differently ... in different countries when equally the PPF failed to advise about a critical variation [in the way in which data is collected in that other country]".
The PPF were ordered to recalculate the risk-based levy on the basis of a failure score that took into account all documents that had been properly filed in Luxembourg; they were forbade from charging interest in respect of the late payment of this sum; and a contribution of £10,000 towards the trustees' not-insignificant legal costs was also required from them.
Now it was the PPF's turn to feel aggrieved and it appealed to the High Court, the first time that such a step had been taken in respect of a determination by the PPF Ombudsman.
The decision of the High Court
A year later and the High Court has just given judgment, in favour of the PPF. Not only has it overturned the core decision of the PPF Ombudsman regarding use of out-of-date information when calculating a failure score, it has also indicated that the Ombudsman's office had no jurisdiction here to make determinations about the payment of interest (by the trustees) or the trustees' legal costs (by the PPF).
The court's decision was based quite heavily on the construction of the PPF 'levy determination' for the year in question, which essentially set down the basis on which the PPF will calculate the levy. That determination included statements to the effect that the PPF:
and that information itself:
The court's decision certainly brings us legal certainty, which is rarely a bad thing. Nonetheless it does constitute a very pronounced 'clipping of the wings' of the PPF Ombudsman, that will result in even lesser scope for challenging the calculation of a scheme's risk-based levy than was previously the case. Essentially, if D&B say that a sponsor's failure score is X, then it will be X, even if it could have been something very different. It matters not, said the court, that this might produce an unfair or irrational result: once the method for calculating the levy has been set via the 'levy determination', the process simply becomes a mechanical one. The numbers are crunched, and the result is what the result is.
Lessons to be learned
The judgment of the High Court provides a salutary reminder to sponsors and trustees alike that they must ensure full and accurate information is held by D&B (or indeed any other insolvency risk assessment agency), as any failings in this respect will not entitle them to have the failure score or risk-based levy calculation revisited.
Even though in a small number of circumstances the PPF Ombudsman has previously found against the PPF and in favour of scheme trustees, the scope for successfully challenging a levy determination can only have been narrowed quite considerably by the court's decision in West of England.
Trustees and sponsors should keep in mind that D&B now assess failure scores on a monthly basis and, for any given levy year, take an annual average derived from the previous 12 months' scores. Since the commencement of the current levy year it has no longer been possible to leave 'data optimisation' to the last minute in order to pep-up your failure score.
Particular care should also be taken in the run-up to the 2015 levy year, when Experian take over from Dun & Bradstreet as the PPF's chosen insolvency risk assessor. Any data issues, however minor, that are potentially relevant to this change of provider, should be identified and assessed as promptly as possible to prevent fingers – and wallets – being unexpectedly burned.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.