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The opdu Report - Issue 23, November 2007 The issue Pension scheme trustees are legally obliged to pay out benefits in accordance with the underlying deed and rules. However, sometimes mistakes are made in drafting the rules as a result of which members become entitled, on a strict application of the wording, to greater benefits than the employer or the trustees had originally intended. Sometimes, such mistakes only become apparent years after the scheme documentation was executed, perhaps when the deeds are later amended or consolidated. In the meantime, trustees might have administered the scheme on the basis of what was actually intended (maybe accurately reflected in the members' handbook) rather than what the rules erroneously say. The problem arises when the mistake comes to the attention of the trustees. In the light of their duty to pay benefits in accordance with the strict wording of the (albeit erroneously worded) rules, what should trustees do? Before exploring some of the practical possibilities open to trustees and employers, we consider first how the courts might seek to remedy the mistake. The legal principles (i) Construction arguments If the words themselves mean one thing on their face, but it is obvious that the person who drafted them intended to mean something else, then the Court can construe the words to bear the obviously intended meaning, not the grammatically correct meaning. The Court would then make a legally binding declaration to that effect. Absent an ambiguity in the wording of the rules themselves, it would be necessary to persuade the Court that the relevant provision should be interpreted in the light of the parties’ habitual idiosyncratic use of language. In practice there will probably be relatively few cases when a Court would feel able to go beyond the natural meaning of the words used. Obtaining a rectification order is not easy, and the legal requirements are strict. Essentially, it will be necessary to demonstrate to the Court, by reference to convincing proof, that it is more likely than not that both the employer and the trustees had a common intention, continuing up until when the relevant scheme documentation was signed, which intention was (by mistake) not reflected in the deed and rules. Even then, the power of the Court to order rectification is discretionary. In theory, there are no limits to what may be taken into account in proving the relevant intention. The first port of call will probably be the board minutes of the relevant meetings of the trustees and the employer at which the benefits in question were discussed. However, you can also look at communications made to employees and members, actuarial reports, as well as other evidence (whether written or oral) as to what passed between those charged with making the relevant decision. After some doubt, it is now clear that it is not necessary for the trustees and the employer to have agreed on the material matter, as long as their intentions converged. It is also now clear that it is permissible for the Court to have regard to events which happened after the deed was executed in order to determine what, in fact, was intended. This means that the Court can have regard to how benefits were actually paid, as well as employee/pensioner communications, scheme booklets and subsequent actuarial valuations prepared after the documentation was signed. In order to persuade the Court to set aside the decision, it will have to be shown that, had they taken into account a relevant matter, the trustees might have acted differently. One example of such a situation might be where one effect of granting benefits in accordance with the erroneous wording would be to increase significantly the cost to the scheme. If (as would likely be the case with unintended benefits) no actuarial valuation had been obtained specifically in relation to the costs of granting such benefits, this might be said to constitute a failure on the part of the trustees to take into account a relevant matter (such matter being the additional cost of granting the benefits). (iv) Gibbon -v- Mitchell - mistake Essentially, the employer has to show that it made a mistake as to the direct effect of the transaction it entered into. For these purposes, it is sufficient to show that it lacked understanding of the practical consequences of what it had done. Unlike the position under Hastings-Bass, it is not necessary to show that the mistake arose as a result of a breach of duty on its part. Having explored the legal issues, we now consider whether, apart from taking the matter to Court, there are other, more practical, ways of dealing with the problem caused by the fact that the wording of the rules is different from what which had been intended. Carry on regardless? Once the mistake has come to light, the trustees may think about carrying on as before, as if nothing had happened. The mistake in the rules will probably be known to a small number of people (and usually not to any of the scheme members). Morally, there may be no objection. As long as members receive their intended benefits, what is the objection in continuing to administer the scheme along those lines? As stated at the outset of this article, trustees are under a legal obligation to pay benefits in accordance with the strict wording of the rules. Not doing this could well constitute a breach of trust. As the trustees would actually know that the scheme was not being administered in accordance with those rules, there is a risk that exoneration provisions would not come to the aid of the trustees. That being the case, to do nothing and carry on as before would be legally risky for the trustees. In the next section, we discuss what might be done in respect of benefits which accrued before the mistake came to light. In the meantime, as soon as the mistake comes to light, the scheme’s trustees should consider executing an amending deed. The deed would seek to correct the error, so that, going forward, the wording of the rules reflect accurately what had actually been intended. This would ensure that benefits accruing subsequently would tie in with the original plan. More tricky are those benefits which had accrued before the amending deed is executed. Execute a retroactive "house-keeping" deed The six-million dollar question is whether it is open to the trustees and the employer to execute a deed amending the rules as if they had always stated what they were intended to say. The obstacle in the way of this seemingly obvious way of dealing with the problem is section 67 of the Pension Act 1995. This provision requires trustees to obtain members' consents - or a certificate from an actuary - before making any modification to a scheme which would or might affect members' entitlements or accrued rights in respect of service before the modification. The actuary is asked to certify that, in his opinion, the modification would not adversely affect members' accrued rights or entitlements. In the light of this, if the trustees and the employer simply execute a deed which attempts to amend the erroneous provision retroactively (i.e. from when the provision was first introduced and not from when it came to light), it might be argued that the document should be given no effect as it is in breach of section 67 of the Pensions Act 1995. Similarly, it may be legitimate to execute a house-keeping deed if, for reasons other than a typographical error, the mistake in the rules is so clear (because, for example, the rule in question creates a logical or commercial absurdity which could not possibly have been intended by the employer or the trustees) that a Court would refuse to give effect to it anyway and would rectify (or amend retroactively) the provision. If this can be shown, it may be that (as with the “typo” example) it could be said that no accrued rights had been granted which would be relevant to section 67. These situations apart, it is less certain whether it is legally permissible to execute "house-keeping" deeds without seeking to obtain the consent of scheme members. However, experience suggests that pragmatic decisions have been (and are being) taken by employers and trustees. Employers are likely to bear the financial burden of any increased liabilities of the scheme due to mistakes in the rules. Accordingly, they will have a keen financial incentive to explore with the scheme trustees whether a solution can be found without involving the members and the Court. Employers may propose that a retroactive "housekeeping" deed be executed, in return for which they will agree to indemnify the trustees against any liabilities arising from breach of trust claims against them. To protect the trustees from future claims, they would be well-advised to collate evidence demonstrating that the rules did not reflect what the employer and the trustees had actually intended. Such evidence might include minutes of meetings of the board of the employer and trustees, legal advice given at the time, actuarial valuations prepared and communications made to members or employees. It might also be a good idea to take witness statements from those responsible (whether the company’s directors or trustees) for making the relevant decisions. In addition, the employer and trustees should seriously think about obtaining a written Opinion from Counsel (probably a Q.C. specialising in pensions work) to the effect that (i) if the matter were to go to Court, the judge would probably give effect to the intention behind the rules rather than the strict wording of the provision itself, and (ii) as a result, the trustees would be justified in administering the scheme in accordance with the proposed “house-keeping” deed. However, trustees may sometimes feel that they cannot proceed in this way. It may be that they cannot get the comfort they seek from Counsel or their legal advisers as outlined above. Further, they may feel that the reputational risk of a subsequent breach of trust claim is just too great or that (based on purely financial considerations) there is too much uncertainty as to whether or not the employer would be good for the indemnity if the mistake later comes to light. If the trustees reach this conclusion, what can they then do? Get the members' agreement If the membership of the scheme is small, it might be possible to amend the scheme rules retroactively if all of the members agree. However, this will not usually be very practical. More realistically, one could seek the agreement of one member who has been appointed to represent the interests of the wider membership, and then ask the Court to approve that agreement on behalf of the other members. Alternatively, if such agreement cannot be obtained, the employer can make an application Court. We address the litigation option in more detail below. Whatever is done, it will be necessary to appoint a representative member of the scheme to act on behalf of the wider membership. Only a representative who is likely to have knowledge and experience of the relevant points in issue should be appointed. The company will normally recommend a firm of solicitors to represent the interests of the members, taking their instructions from the representative beneficiary. Separate solicitors will probably have to be retained on behalf of the trustees as well. The evidence the employer has gathered showing that the wording of the scheme rules does not reflect what was intended will be presented to solicitors for the representative beneficiary and the trustees. The purpose behind this will be to persuade the representative beneficiary and the trustees that the employer's case is so strong that it would be a waste of time and money going to Court and that the matter should be dealt with by consent. As a quid pro quo, the employer will usually have to agree to an incentive to the members (often by way of some benefit enhancements) to encourage the representative to agree that the erroneous rule should be amended retroactively by consent. If agreement can be reached between the representative member, the trustees and the employer, the Court will have to approve the settlement, having been persuaded that it would be in the members’ interests to do so. If the Court is so persuaded, it should give effect to the agreement which has been reached and modify the offending rule. Legal proceedings It may be that the representative beneficiary (advised by his solicitors) feels that the evidence put forward by the employer should be tested by way of legal proceedings. Depending on how far the proceedings go, the employer may have to disclose relevant documents and exchange witness statements. At any time down the litigation route, it is open to the parties to compromise the proceedings and seek the approval of the Court to any agreement, as outlined above. However, the representative beneficiary may feel (acting on advice) that the only way to test the evidence being put forward by the employer is to cross-examine the witnesses in Court. Then the parties are in for a full trial. Conclusion It will be apparent from the above that, when mistakes come to light, there is a number of options potentially open to employers and trustees. These options range from doing nothing (no doubt the most risky option) to taking a case through to a Court trial (plainly the most expensive). Most cases will probably be resolved somewhere between the two. Ian Gordon
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