It has certainly been a busy few weeks for pensions in the law courts. Hot on the heels of the High Court decision on GMP equalisation, the Supreme Court last week handed down judgment in Barnardo’s v Buckinghamshire and others, the latest in a line of cases dealing with the appropriate index to use in increasing pensions in payment.
RPI/CPI – the background
The Pensions Act 1995 introduced requirements for pensions accrued on and from April 1997 to be increased to protect their value against the impact of inflation. The minimum levels of increase are set out in secondary legislation and for many years were based on changes to the Retail Prices Index (RPI), capped at a particular percentage.
Since 2011, the statutory minimum rate of increase has been altered to be based on changes to the Consumer Prices Index (CPI) and not RPI. However, the change to CPI does not always automatically feed through to pension scheme trust documentation – this depends on the way in which the pension scheme rules are drafted. For example:
- Some schemes provide increases at the level set out in legislation. In these cases, CPI would apply automatically because of the change to the rate set out in the legislation;
- Some schemes provide for increases to be based on RPI, so that RPI is hardcoded into the rules as the measure for increasing pensions. In these cases, an amendment (subject to the terms of the amendment power/section 67 Pensions Act 1995) would be required to the rules of the scheme to allow for increases on a different basis;
- In some cases, the position is less clear cut. This has resulted in a number of cases questioning whether increases can be made by reference to CPI instead of RPI. The Barnardo's scheme falls into this category.
Barnado's – the facts
Pension increases in the Barnardo’s staff pension scheme were provided at "the prescribed rate", which was written into the rules as the lesser of 5% and the percentage increase in the RPI over the year ending 31 December.
"Retail Prices Index" was a defined term within the rules and meant "the General Index of Retail Prices published by the Department of Employment or any replacement adopted by the Trustees without prejudicing Approval" (emphasis added). The rule then went on to provide more detail of how the increase would be calculated, noting that there would need to be a restatement if RPI were replaced or re-based over the increase period.
The question for the courts to consider was whether this definition (and in particular the highlighted part) meant that the trustees:
- could, in their discretion, adopt an alternative index as a replacement for RPI (in which case the Trustees would have the discretion to use CPI instead of RPI without a rule amendment); or
had to use RPI, and could only (absent a valid rule amendment) move away from this index if it ceased to be published and was replaced by another index, in which case the trustees would adopt its replacement.The judgment Lord Hodge handed down the unanimous judgment in the Supreme Court, agreeing with the majority judgment made in the Court of Appeal, that the drafting of the rule required the second of these interpretations to be adopted. In other words, the Trustees did not have any discretion to change the index used to calculate pension increases in this scenario. The definition of RPI only allowed an alternative index to be adopted in circumstances where RPI ceased to be published, in which case its replacement could be adopted instead.
The main thrust of the reasoning in this judgment revolved around giving the words in the trust documentation their natural meaning. Lord Hodge noted that the grammatical construction of the definition suggest that RPI must first be replaced and the trustees could then adopt its replacement, rather than them having any discretion to make a change before this point. He noted that the element of discretion provided in the definition to the trustees would allow them to choose an alternative indices if RPI were replaced by more than one option for increasing pensions, and did not suggest that there was a wider discretion to change the index used where RPI continued to be published.
The court indicated that it was not appropriate for it to look at whether the provision still makes good commercial sense or whether it was inconveniently inflexible as a measure for changes to the cost of living, nor to consider whether the appropriate construction would favour the employer or the members. The court's role was simply to construe the rule without any of these preconceptions.
The decision in Barnardo’s will have many trustees reaching for their trust documentation to ensure that they have correctly interpreted their pension indexation provisions. It is quite conceivable that a number of schemes with a similar RPI definition to Barnardo’s may have interpreted this rule as allowing a change to CPI without any rule amendment, and will now need to reconsider.
It may also cause trustees with different scheme wording to question whether they have adopted the true "natural meaning" of "Index" or "Retail Prices Index" in their rules, or whether they have read into their rules a discretion which, following the Barnardo's case, may not truly exist.
The use of the wrong indices for indexation or revaluation can have a material impact on the cost of the benefits to be provided from an occupational pension scheme. It is therefore in the interests of all scheme stakeholders to ensure that the interpretation which they have adopted is the correct one. Shoosmiths suggests that all trustees check their rules (or ask their legal advisers to do so) and make sure that the Barnardo's judgment does not impact on their scheme.