Guidance for pension schemes on accounting for Guaranteed Minimum Pension equalisation
The Pensions Research Accounts Group (PRAG) has published new guidance on ‘Accounting for Guaranteed Minimum Pension (GMP) equalisation by pension schemes following the Lloyds judgement’ (March 2019). The guidance is available on the members’ area of the PRAG website.
The guidance has been prepared:
- To assist pension schemes assess the impact on their accounts of the High Court judgement, on 26 October 2018, in Lloyds Banking Group Pensions Trustees Limited v Lloyds Bank Plc GMP equalisation case.
- Makes it clear that each pension scheme will need to exercise judgement and have regard to its scheme rules in determining the appropriate accounting treatment for obligations arising from the requirement to equalise the effect of unequal GMPs accrued between 1990 and 1997.
In summary, pension schemes should recognise a liability in respect of backdated benefits payable and related interest where these can be measured reliably, and the liability is expected to be material.
The Guidance should be read alongside FRS 102: The Financial Reporting Standard Applicable in the United Kingdom and the Republic of Ireland and Financial Reports of Pensions Schemes: A Statement of Recommended Practice (the Pensions SORP (2018)).
Current estimates of obligations relating to the equalisation of GMPs range from 1% of scheme liabilities to 4%. However, obligations could be outside of this range.
What is GMP?
The GMP is the minimum pension which a UK occupational pension scheme has to provide for those employees who were contracted out of the State Earnings Related Pensions Scheme (SERPS) between 6 April 1978 and 5 April 1997.
About the Lloyds judgement
In the Lloyds judgement, the High Court:
- Ruled that the Lloyds Schemes must equalise for the effect of unequal GMPs accrued between 17 May 1990 and 5 April 1997.
- Set out a range of methodologies that the trustees can use to calculate scheme obligations.
- Ruled that back payments are applicable subject to any limitations in the scheme rules, for example in relation to time limits on the back-dating of benefits, with interest applied at 1% of the Bank of England basic rate.
The judgement did not deal with the treatment of transfers out or de-minimis considerations which are expected to be dealt with in a second hearing later this year.
Most pension schemes were required to equalise benefits payable to male and female scheme members as a result of a judgement reached by the European Court of Justice on 17 May 1990 in Barber v Guardian Royal Exchange Assurance Group. The judgement was incorporated into the Pensions Act 1995.
However, subsequent to the Barber case, pension schemes have tended not to equalise differences in benefits as GMPs remained, and still remain unequal in the underlying legislation. The absence of changes to the underlying legislation or sufficient guidance from the UK Government on acceptable methodologies have resulted in this position.
While the October 2018 ruling relates specifically to Lloyds Pension Schemes, it applies to any scheme contracted out between May 1990 and April 1997 and providing GMPs.
Accounting for obligations arising from GMP equalisation
Under FRS 102:21:4, an entity shall recognise a provision only when:
(a) the entity has an obligation at the reporting date as a result of a past event;
(b) it is probable (i.e. more likely than not) that the entity will be required to transfer economic benefits in settlement; and
(c) the amount of the obligation can be estimated reliably.
Schemes are likely to have to exercise judgement in determining the obligating event (FRS 102:21:4(a)) and the measurement of the obligation (FRS 102:21:4(c)).
The guidance points schemes towards the following considerations in arriving at a judgement about these requirements:
- If the liability is clearly going to be immaterial it will not be necessary to include it in the financial statements although the trustees may do so if they wish, explaining their approach to dealing with the matter in their trustees’ report and the financial statements.
- The determination of the required GMP equalisation at a member level is complex and will involve detailed analysis of individual member records which current experience suggests will not be available for some time, possibly a number of years. Also whilst the rulings have provided clarification in practice trustees may find further complications in applying the methodologies approved by the High Court. In these circumstances, it is not necessary to calculate the backdated benefits and related interest at a member level for accounting purposes if a reliable estimate can be determined by other methods *[meaning a provision can be recognised rather than an accrual].
- It is possible that in certain circumstances measurement difficulties could exist which mean trustees cannot reach a reliable estimate, for example, if the trustees and employer had not yet agreed upon the appropriate methodology, significant data issues exist or further significant clarifications are required.
- Non-recognition of liabilities due to measurement difficulties is normally expected to be rare and very exceptional, see paragraph 3.6.3 of the Pensions SORP. If the trustees conclude that it is too early in their deliberations and decision-making process to determine a reliable estimate and there are grounds to believe the amounts are likely to be material this should be disclosed in the notes to the financial statements (FRS102:2:32) and it would fall to be treated as a contingent liability under FRS 102 (FRS 102:21:12) rather than an accrual or provision. The scheme auditor will consider the implications of this on their auditor’s report.
- The question arises as from what date this obligation existed as this is relevant to considering whether to treat the ruling as an adjusting or non-adjusting post balance sheet event. One view is that the effective date of the obligation is the date of the ruling *[i.e. the High Court’s judgement in the Lloyds case]. Another view is that trustees always had this obligation which the ruling has confirmed. In either case, the effective date is not when the trustees eventually amend scheme benefits to comply with the ruling. The balance of views emerging from accounting firms is that the effective date for recognising the obligation is the date of the ruling which provides clear guidance as to the measurement methods available.
- Based on the views described above *[i.e. the obligating event occurred on 26 October 2018, the date of the Lloyds judgement] schemes with year ends before the judgement date where financial statements are approved after the judgement date will disclose the ruling as a non-adjusting post balance sheet event with an estimate of its financial effect or an explanation that such an estimate cannot be made, where the amounts are material.
- Schemes with year ends after the judgement date will recognise the cost of backdated benefits and related interest in their financial statements where material and where a reliable estimate can be made.
- For schemes with year ends post 26 October 2018 the cost of backdating benefits and the related interest is recognised in the accounting period in which the date of the ruling falls *[meaning at the date of the obligating event which is either the date of the Lloyds judgement or an earlier date].
*Denotes a clarification of the guidance by ICAS.
Example disclosures
An appendix to the guide provides example narrative disclosures for scheme accounts on the following scenarios:
Pensions schemes with a year ending before 26 October 2018 (described in the guidance as pre-26 October 2018 year-ends)
- Non-adjusting post balance sheet event, possible to estimate the obligation.
- Non-adjusting post balance sheet event, not possible to estimate the obligation.
- Amount immaterial but disclosure of the issue included in the financial statements.
Pension schemes with a year ending on or after 26 October 2018 (described in the guidance as post-26 October year-ends)
- Reliable estimate available, deemed an accrual.
- Reliable estimate available, deemed a provision.
- Not possible to obtain a reliable estimate.
Not period specific
- Historic transfers out