Partner Anna Rogers analyses in LexisNexis PASA’s guidance on GMP conversion
The Pensions Administration Standards Association (PASA) has published guidance to help unblock guaranteed minimum pension (GMP) conversion in occupational pension schemes.
Partner Anna Rogers, a member of PASA’s GMP conversion sub-group, was interviewed by Pietra Asprou on the recent guidance, the issues that arose, their solutions, and achieving simplification without a significant impact on members.
What is the background to the guidance?
Trustees want to pay the right benefits, but few contracted-out schemes have yet fully equalised benefits between men and women as required by law. Pensions earned from 1990 are treated as pay but GMPs continued accruing until 1997. Like the State pension it replaced, the GMP is different according to sex, and the split between GMP and ‘excess’ matters when calculating pension increases. The GMP is what it is, but Lloyds Banking Group Pensions Trustees Limited v Lloyds Bank plc  EWHC 3343 (Ch) in 2018 finally confirmed schemes must equalise the effect. The details are tricky and the effect on benefits is very small for most people—but not all.
The law was changed in 2009 to allow GMPs to be removed by converting them into other benefits. However, the process is unclear and does not fit comfortably with the pensions tax structure.
What are the key aspects of the guidance?
PASA’s guidance does not seek to promote conversion as best practice. Rather it draws together conclusions reached by ‘early adopters’ who have converted GMPs. Its purpose is to share knowhow and experience. It emphasises the need for scheme-specific legal advice.
The emerging consensus seems to be that a bulk conversion of current pensioners is workable and can be followed by a rolling programme of ‘conversion at retirement’. Bulk conversion of deferred pensioners has not been favoured except at buyout. Combining conversion with an at-retirement pension increase exchange (PIE) option, or a bridging pension option, seems a popular idea.
The guidance sets out a step-by-step guide to the process, including definitions of the key dates and other concepts, and detailed figures illustrating sample cases. As a useful preliminary, it outlines the factors influencing whether conversion is likely to be attractive to a particular scheme. Positive indicators include: small scheme; complex benefit structure; low earners with restricted options; and in-house administration. The costs and benefits have to be compared with a ‘year-by-year’ method of equalising. Conversion will not be suitable for all schemes.
The guidance then addresses the choices available. Which members should be converted? Which benefits? How is the post-conversion benefit structure simplified? Many schemes will convert all pre-1997 benefits (including pre-1978) and make only marginal changes, such as removing anti-franking tests to streamline administration, and removing GMP-related restrictions on early retirement or commutation.
Statute requires conditions to be met, of which actuarial equivalence is perhaps the easiest. Pensions in payment cannot be reduced. Employer consent is straightforward in a single employer scheme. Minimum spouse benefits can be a block, depending on the benefit structure, unless they are improved. Member consultation is proportionate. There is a workaround for notifying an unwilling HMRC. The process is actually much better defined for conversion than for other forms of equalisation. There is no real uncertainty over methodology as there was before Lloyds.
The guidance also walks readers through the tax issues. Lifetime allowance protection is at risk and, for deferred pensions, an ex-GMP is treated as new accrual with consequences for the annual allowance. There are details of the legal analysis adopted by different schemes, illustrating a range of approaches.
There are outstanding questions including:
- must the benefit be equalised before conversion (‘one step’ or ‘two step’ conversion)?
- is ‘at-retirement’ immediately before or after retirement?
- can benefits be materially reshaped, for example removing pension increases or changing them from capped inflation to fixed 3%?
- can GMPs simply be relabelled as ex-GMP with a one-off equalisation uplift? Or do future cashflows have to be unisex?
These are technical and/or fiduciary issues. Strongly-held opinions vary among practitioners. For example, some consider reshaping pension increases risky – effectively a compulsory PIE, though full value is required and the incentives code would not apply.
What are the practical implications for pension schemes and their advisers?
The guidance should result in convergence of practice. Everyone benefits if advisers, consultants and administrators collaborate to find cost-effective, robust and practical solutions.
Conversion is irreversible if valid, despite any unintended consequences, such as member tax charges. If it’s invalid, unscrambling conversion, or re-doing it, will waste even more precious resources. No one wants a new GMP correction exercise several years down the line.
Courts tend to approach pensions in a practical and purposive way. A clear consensus on what can and can’t be done should help to avoid a future challenge, or meet it if it comes.
What happens next?
There is a Private Member’s Bill that offers a chance to remove some of the technical difficulties. Long-demanded guidance from HMRC seems unlikely to be forthcoming. Schemes may conclude that the risks are low if they follow the guidance. Perhaps a significant number of schemes will convert in 2022 once the path becomes more well-trodden.
On a wider issue, everyone accepts that the pre-conversion pension has to be reconciled with HMRC records first. If a pension in payment isn’t correct, the ‘no reduction’ condition will not be met. In this author’s view it would be wise to address other foreseeable legacy issues for the same population. These often emerge when preparing for buyout or winding-up. ‘Barber windows’ do remain, and the introduction of statutory revaluation and post-retirement increases led to some transitional issues. The pensions dashboard will bring compulsory provision of deferred pension information. It may be cost-effective to clean up benefits as well as data in the next couple of years.
Conversion is a statutory process designed to bring certainty to pre-1997 benefits. Simplification is a chilling word in pensions—tax simplification did not do what it said on the can – but conversion may be a genuine opportunity. The PASA guidance points the way.
This interview was first published by LexisNexis UK (behind paywall).
The views in this article are intended for general information purposes only and should not be used as a substitute for professional advice. Arc Pensions Law and the author(s) are not responsible for any direct or indirect result arising from any reliance placed on content, including any loss, and exclude liability to the full extent. Always seek appropriate legal advice from a suitably qualified lawyer before taking, or avoiding taking, any action. If you have any questions on the points raised in the above, please do not hesitate to get in touch.