The High Court has delivered a long-anticipated remedies judgment on the practical effect of IBM breaching its duty breach of good faith towards its employees by purporting to make various changes to its pension scheme in a project known as "Project Waltz".
The latest judgment
Our alert of 21 August 2014 sets out the factual background to "Project Waltz", and the court's findings on IBM's liability.
In the latest instalment in what has been a long running saga for IBM, affected employees, and the trustees of the pension scheme, the High Court has now given its ruling on the remedies available to members and the legal effect of the previous finding that IBM had breached its duty of good faith towards them.
The judgment runs to over 180 pages and many of the points considered are peculiar to the facts of Project Waltz. However, the findings which are likely to cause most consternation (in our view) are that:
- the "non pensionability agreements", whereby future pay rises were awarded on the understanding (on IBM's part, at least) that they would not be pensionable and which the court had previously found to have been obtained in breach of duty, were unenforceable. The affected employees could therefore keep the salary increases and have them treated as pensionable;
- the exclusion notices which IBM had used to close accrual (which the court had also found to have been served in breach of duty) were "voidable", meaning members can now choose whether to be treated as having remained in pensionable service or not. The scheme was not, therefore, closed to accrual;
- while IBM can now close the scheme, it will have to consult afresh and serve new exclusion notices - if it does not consult, the court has indicated it would grant an injunction stopping IBM from serving new notices to close the scheme;
- members are, in principle, entitled to apply for damages for the breach of duty;
- both compulsory and voluntary redundancy were capable of constituting a 'retirement' for the purposes of the plan's early retirement rule,
- compulsory redundancy could be viewed as retirement "with the employer's consent" if there was sufficient evidence that members had a reasonable expectation that the old early retirement policy extended to compulsory redundancies; and
- waivers contained in settlement agreements entered into as part of separation programmes were effective in terms of waiving entitlement to an enhanced pension under the scheme rules, but were ineffective in waiving claims relating to IBM's breach of its Imperial duties under Project Waltz
Unresolved issues
One of the big unresolved questions in this case is how far back the consequences of a breach of duty could reach. The issue of limitation periods has not yet been expressly considered by the court but the standard limitation period for a breach of contract claim is six years from the date of the breach.
Employers could therefore be potentially exposed to the risk of employee claims based on breach of their contractual duties for up to six years after closing a scheme. What is not yet clear is whether the limitation period for breach of the Imperial duty could be longer than this.
In the IBM case, the court accepted that there was a "Longstop Date" beyond which the members' "reasonable expectations" would no longer prevent the exclusion notices being served. But in practical terms, while the longstop date for the IBM employees' reasonable expectations was agreed to have passed by March 2014, IBM have had to wait until the court judgment was handed down this February to discover that they must re-run their consultation and serve fresh exclusion notices, with members being able to elect to be treated as remaining in pensionable service until IBM takes that further action.
It is therefore not clear at what point an employer can conclude that they are "safe" from latent claims. Or, if claims are issued, whether a closure exercise should now be re-run as a precautionary measure, to guard against adverse judgments in those claims.
It is worth remembering, however, that the decision in the IBM case is very fact specific, and what remains to be clarified (unfortunately, probably through future litigation) is precisely when a court would be likely to find that employees had the requisite "reasonable expectations" to found a claim, and what employer actions would be found to breach its Imperial duty.
Finally, the actual amounts potentially payable to employees with legitimate claims have not been determined by this judgment - it is a principles based judgment and so not the end of the story for IBM in terms of being able to understand its financial exposure.
Considerations for employers?
There could be huge ramifications for employers in discovering that the closure of a company's defined benefit pension scheme was unenforceable and that employees can elect to be treated as remaining in pensionable service ever since.
No employer will wish to be the next "test case" for the boundaries of the new doctrine of "reasonable expectations". So what can employers do?
We would certainly not suggest that every employer who has ever closed a pension scheme to accrual needs to revisit that exercise. In our experience, the particular combination of facts in Project Waltz which led to the finding that there was breach of duty is relatively unusual. There may therefore be grounds to try and distinguish future cases from IBM on the facts.
The risk of claims could be higher, however, if a closure exercise was especially contentious or poorly received by employees or their representatives at the time and in particular if employees purported to be "working under protest" rather than accept the changes.
The trickier issue will, in our view, be future closure projects.
How much due diligence does an employer need to do to determine whether there is a material risk that employees have "reasonable expectations"? In the event you determine there is a risk, what can be done to avoid a breach of duty? The answers to these questions will, of course, be fact specific. Employers will need to weigh up the likelihood of claims against the potential financial impact of a failed closure.
Employers will need to be vigilant in the documentation relating to benefit change exercises, ensuring that legal advice is sought at an early stage about risk assessment, planning and consultation. To the fullest extent possible, 'planning', 'risk assessment' and other documents should be funnelled through legal teams in an effort to attract legal privilege for such documents in the event of future litigation.
Employers will also need to be prepared to face tougher questions from trustees and employees in relation to proposed scheme closures.
In the past, many advisers have advised their trustee clients to take a "hands-off" approach to the employer's consultation process and assessment of affected employees' contractual rights. Now that the stakes are potentially higher, it may be that this view changes slightly and trustees are increasingly advised to challenge the employer more robustly on these issues and risks.
Finally, if an employer settles any claims to pension under a settlement agreement, (either on a scheme closure or in a redundancy situation, for example) the wording of the settlement agreement will need extreme care, to ensure that all potential claims have been successfully waived.
Considerations for trustees?
Perhaps the most surprising aspect of the latest judgment is that there are direct implications for trustees. Although it is well established that an extrinsic contract between the employer and employee can impact on how trustees administer a pension scheme, the conclusion that a breach of duty could vary the pension scheme goes one step further, in our view, and could leave trustees in an unenviable position.
Trustees have a duty to administer a pension scheme correctly and to look to the sponsoring employer to fund the scheme's liabilities. They therefore need to be satisfied that any changes to scheme benefits are legally effective. But how far do trustees now have to go to satisfy themselves that there has not been a breach of duty on the part of the employer?
In our view, one of the relevant factors for trustees will be the method that is used to close the scheme. It strikes us that unilateral employer actions such as serving exclusion notices or variation of contractual terms may be more vulnerable to challenge than a closure effected by an amendment to the pension scheme's rules.
That's not to say that signing a deed of amendment could not amount to a breach of duty on the part of the employer, but it seems more difficult to us to conclude that a deed of amendment could be "voidable" at a member's election in the same way that the High Court has found unilateral exclusion notices to be.
Another important consideration for trustees will be the strength of the employer covenant at the time of the closure and afterwards. For example, if part of the employer's business case for closure is that it cannot afford to provide continued DB accrual, trustees might conclude that the employer could not afford an unexpected increase in liabilities either. In those circumstances, trustees might wish to take more steps to satisfy themselves that the employer has carried out appropriate due diligence and taken steps to manage the risk of employee claims.
On the other hand, if an employer is financially strong but its business case for closure is based on harmonisation of benefits or a change in remuneration policy, trustees might conclude that the employer is better able to bear the risk of a failed closure. Unless there are particular causes for concerns, then trustees in this position may feel more comfortable leaving the due diligence to the employer.
What next?
We understand that IBM is seeking permission to appeal the judgments on both liability and remedies - if permission is granted, the Court of Appeal could still overturn some or all aspects of the decision.
In the meantime, however, the High Court has set a precedent which could have far-reaching implications for both employers and trustees.
Any employers considering benefit changes to their pension scheme should seek legal advice early on regarding the implications and relevance of the decision to their own particular circumstances.