Coronavirus Job Retention Scheme - Pension aspects

Furlough, until recently not a recognised concept of UK employment law, has entered the mainstream in response to the extraordinary circumstances of the COVID-19 pandemic.  It refers to employees who are temporarily stood down by their employer because they are unable to work as normal.

Under the Government funded Coronavirus Job Retention Scheme (the "CJRS") first announced on 20 March 2020, employers are, with effect from 1 March 2020, able to claim a contribution towards the employment costs of a furloughed employee. An employer can claim 80% of the employee's gross reference salary (normally salary as at 19 March 2020) subject to a maximum of £2,500 per month. These amounts will be reduced for September and October 2020, with employers still having to pay at least 80% of gross reference salaries, and the CJRS is then due to end. The employer can also claim for the employer national insurance contributions and minimum automatic enrolment pension contributions payable on these salary subsidies but only for periods before the end of July 2020.

From 1 July 2020, employers can bring furloughed workers back to work part-time. Employers will be responsible for paying workers' wages while at work, with the Government subsidy only applying when workers are not working.

Salary sacrifice arrangements, which are commonly used for employee pension contributions, may reduce what an employer can claim under the CJRS, which is normally based on the employee's actual (so post sacrifice) salary as at 19 March 2020.  This will be the case for any employee who is not otherwise subject to the £2,500 monthly cap (so whose post sacrifice earnings are less than £3,125 a month).

Automatic enrolment and re-enrolment obligations continue during furlough by reference to an employee's furlough pay. Under the CJRS, an employer can claim a contribution towards pension costs for periods until the end of July 2020, equal to statutory minimum employer pension contribution of 3% of 'qualifying earnings', (which is pay above the statutory threshold of £520 per month). This contribution may be different from the employer's actual automatic enrolment obligations, which can depend on the level of contributions the employee is making and the type of contribution structure the employer has chosen to use to meet its obligations. See section 3 for some particular bear traps here.

Importantly, and perhaps a slightly misunderstood feature of the CJRS, the Government has not given employers any separate statutory right to put an employee on furlough leave nor to change an employee's pay and conditions (i.e. to enable the employer to reduce pay and benefits during furlough to what it can reclaim under the CJRS).  An employer will, in most cases, need to agree this with the employee.  Employers might find it difficult to agree furlough terms on reduced pay and benefits unless this is an alternative to a less attractive option – such as a likely redundancy scenario or even total a cessation of business if the employer would not otherwise be able to ride out the crisis.

Implementing furlough is likely to be a more straightforward process if an employer is maintaining current pay and benefit terms.  An employer may still want to place an employee on formal furlough leave in such circumstances to enable it to make a claim under the CJRS in relation to those employees who are unable to work during the crisis.

What furlough could mean for pension benefits will depend on what type of pension arrangement is provided by the employer, the specific rules of that arrangement, and any changes made by the employer to pay and benefits during that period.  There are a number of potential pitfalls and complexities that may need careful navigation in relation to pensions.  Salary sacrifice arrangements can further complicate the position.  We unpick some of the key issues for DB and DC arrangements below.

You can read more about the employment aspects of the CJRS here.

Accrual of benefits

If no change is being made to pay and benefit terms, then the impact on pensions may be minimal.

However, even if contractual terms are unchanged, de-facto changes in an employee's working pattern as a result of the current crisis may have an impact on elements of pay which depend on the employee being able, in fact, to work as normal (such as commission, overtime and bonuses).  This could have a knock-on impact on pension benefits if these elements of pay feed into the calculation of a member's pensionable pay.  Depending on when the member leaves pensionable service, and how final pensionable pay is measured, this could affect not only pension benefits accruing during the furlough period, but also the member's accrued pension benefits.

The potential impact on pension benefits will be more significant still if an employer is reducing the member's pay during furlough.

Scheme rules commonly contain provisions which apply during periods of service where the member is absent from work on reduced pay.  These rules may well be engaged during furlough.  These absence rules might typically give the employer a discretion to allow the period to be treated as if the member was "working normally" (so ignoring any reduction in earnings connected with the member's absence) or provide for this treatment only on a member's return to work and if he or she makes good the additional employee (and in some cases, although more unusually, the employer) contributions that would otherwise have been payable.  Note that if an employee is making contributions by salary sacrifice, then there will be no employee contributions that would have been payable during the furlough period.

These provisions may protect a member from a period of furlough adversely affecting ongoing and accrued benefits, but this depends on how the powers are exercised.  Employers who are agreeing furlough terms for DB employees will need to be very clear on how any reduction in pay during furlough will affect pensionable pay for benefit purposes, especially if the employer is not otherwise intending to exercise a discretion or otherwise augment benefits so as to protect the employee's accrued benefits from any temporary reduction in pay.  It seems unlikely that an employee would readily agree to furlough terms which also prejudiced accrued benefits.

An alternative option to deal with furlough in a DB arrangement, especially if the employer does want to align pay and benefits with CJRS compensation, is for pensionable service to be "suspended" during furlough leave, on the basis that it will recommence (on a continuous basis) when furlough leave ends. To meet automatic enrolment requirements, the employer would have to offer the employee membership of an alternative DC arrangement during this period to which minimum statutory contributions can be paid. If the existing rules do not permit pensionable service to be suspended, an employer might ask scheme trustees to amend the rules to allow for this. Alternatively, it may be possible for the employer to achieve this by way of an express contractual agreement with the employee which, using the principles established in South West Trains, is sufficient to override the scheme rules.

Significant changes to the workforce can sometimes result in the triggering of a section 75 exit debt on an employer participating in a multi-employer scheme, if pensionable service is ending for its employees at a time when it is continuing for employees of other employers.  If pensionable service is only being suspended however, then this is unlikely to trigger a section 75 debt, as an employer should be able to give the trustees a "period of grace" notice confirming its intention to re-admit employees to pensionable service within the next 12 months.

Other terms of membership

There are a number of other terms of membership that will need special consideration or adaption, depending on whether pensionable service is continuing and/or pensionable pay is reducing.  These include what benefits are to be provided on death in service and how pensions are to be calculated if an employee wishes to take early retirement during the furlough period (including on grounds of ill-health)?  If entitlement to benefits is linked to a qualifying period of pensionable service, will this include furlough leave?  Even if pensionable service is being suspended, employers may wish to provide that "active member" terms will continue to apply during this period.

"Final salary link" or "active deferred" members

Some (or all) of the issues that apply to active members will also apply to deferred members who, following a scheme closure exercise, remain entitled to a final salary link on their past service benefits and/or for whom any other  "active member" terms continue to apply on their retirement from, or death during, service with the employer.  Because these members are not currently in active DB pensionable service, then it may be easier for employers to overlook these points when agreeing furlough terms.  Another complexity when dealing with this group is that the scheme's "absence rules" (see above) may not apply (or clearly apply) to employees who are no longer in pensionable service.

Giving effect to furlough changes

If changes are proposed, consideration will be needed as to how to provide benefits on the terms intended.  If a change in scheme rules is not possible (either in advance or retrospectively), then it may be possible to effect changes by exercising the augmentation power or by the employer agreeing an overriding contractual variation with the employee as part of the furlough terms.

Consideration will also need to be given as to whether any change will trigger the "listed change" consultation requirements of the Pensions Act 2004 where an employer has more than 50 employees.  This would normally require a consultation of at least 60 days before changes are made.  However, the Pensions Regulator ("TPR") has issued guidance confirming it will not take regulatory action for a failure to consult in relation to changes to reduce DC contributions if certain conditions are met (see section 3 for further detail).  We would expect a similar approach to be taken to a temporary suspension of DB accrual if the relevant conditions were met.

What can be reclaimed for a DB member under the Coronavirus Job Retention Scheme

The information issued by HMRC does not make any reference at all to DB schemes.  However, if the employer continues to provide ongoing DB accrual (of a level that meets the requirements for a qualifying scheme for automatic enrolment purposes), then a sensible  assumption would be that the employer should be able to claim the same statutory minimum contribution (3% of qualifying earnings until the end of July 2020) as it could do if it was providing a DC scheme. This is consistent with guidance issued by TPR in relation to DC schemes under which contributions are assessed by reference to an alternative "quality test". Note that the employer will need to make arrangements for separately calculating what this contribution would have been for the purpose of making a compensation claim under the CJRS.

Automatic enrolment during furlough

If DB pensionable service is suspended during any period of furlough leave, then the employer will have to make arrangements to enrol the employee in an alternative qualifying DC scheme with effect from the suspension of DB pensionable service.  The employer may already have a scheme that it can use for this purpose.  If not, the employer may need to subscribe to a DC arrangement specifically for this period.

Unless the employer has agreed that alternative pension terms are to apply during furlough, employer and employee contributions will continue as normal, although these will be based on a reduced measure of earnings if the employer has reduced pay during the furlough period.

The position is more complicated if an employer is wanting to align both pay and benefits with what can be reclaimed under the CJRS.

Under the CJRS, an employer can only claim the minimum automatic enrolment employer pension contribution of 3% of qualifying earnings (which are monthly earnings above £520 and up to the CJRS compensation limit)(and it can do so only until the end of July 2020). This will only meet the employer's statutory automatic enrolment obligations if the employee is making a contribution of either 5% or 4% (depending on the type of DC scheme and the tax arrangements in place for deducting that contribution). If the employee is not currently paying this amount, then aligning the employer's contribution to the minimum 3% will require the employee to agree to an increase in his or her contributions in order to meet the statutory requirements. Such an increase may be particularly difficult to effect at a time when earnings are also being reduced. If, however, the employee contribution is not increased, then the employer will be required to make a higher contribution than that which can be reclaimed under the CJRS in order to meet its obligations under the automatic enrolment legislation.

From 1 August, when employers can no longer claim under the CJRS in respect of pension contributions, employers will of course still be required to ensure that at least minimum automatic enrolment contributions are paid and that contributions are paid in accordance with employees' contracts of employment.

If a personal pension arrangement (including a GPP) is being used to meet automatic enrolment requirements, then it is a statutory requirement for the employer to have entered into a binding agreement with the provider to make good the total contribution required to meet the statutory requirements.

Salary sacrifice adds an additional layer of complexity.  If the employer were to align pay and benefits to the CJRS minimum in these circumstances, then the employee would receive neither the pay nor the corresponding benefit to which that sacrifice related, especially if furlough pay has reduced as a result of the sacrifice.

In these circumstances, it may be difficult for the employer to justify not providing the relevant "sacrifice benefits" during the furlough period and restricting the employer pension contribution to the minimum 3%. An update to the HMRC CJRS guidance provided on 4 April explains that "benefits provided through salary sacrifice schemes (including pension contributions) that reduce an employee’s taxable pay should also not be included in the reference salary. Where the employer provides benefits to furloughed employees, this should be in addition to the wages that must be paid under the terms of the Job Retention Scheme."

There will be further scope for misalignment between what the employer pays by way of pension contribution during furlough, and what it can reclaim under the CJRS, if the employer was previously using one of the alternative DC quality tests to meet the statutory requirements. As well as maintaining the normal pension payroll records, the employer will also need to separately calculate and record what 3% of "qualifying earnings" would have been for the employee for the purpose of making a compensation claim under the CJRS.

Consultation requirements if rate of employer contributions is changing

If the rate of pension contributions is changing during furlough, then this is likely to trigger the "listed change" consultation requirements of the Pensions Act 2004 where an employer has more than 50 employees.  This would normally require a consultation of at least 60 days before changes are made.  However, TPR has issued guidance confirming it will not take regulatory action for a failure to consult if all of the following conditions are met:

• the employer is making a claim under the CJRS for furloughed staff;
• any reduction in employer contributions only affects furloughed staff;
• the reduction only applies during the furlough period; and
• the employer has written to affected employees and their representatives to explain the changes and the effects on the scheme and furloughed employees.

TPR nonetheless "encourages" employers to carry out as much consultation as they can.  TPR has confirmed that the above regulatory easement will apply until 30 June 2020, but it will be reviewed "as matters progress".


Life cover

Employers will need to consider how any life cover is affected, which may be provided under the DC pension scheme or via a separate life cover arrangement.  If an employer wants to maintain life cover benefits by reference to the employee's pre-furlough salary, then changes may need to be made to either the underlying trust documents that govern the relevant arrangement and/or any underlying policies of insurance.

Postscript: A government direction made on 20 May 2020 expressly allows a furloughed worker to serve as a pension scheme trustee (including as a director of a pension scheme trustee company).

A condition of the CJRS is that the employer cannot ask the furloughed employee to do any work that makes money for, or provides services to, its organisation.  As a result, a question may sometimes arise about whether a furloughed employee, who is also a trustee of the company pension scheme, can continue to serve as a pension trustee during the period of furlough leave.

Although the Government has provided no specific guidance on this point, there are a number of clear arguments that a furloughed employee can normally continue to act as a pension trustee without breaching the furlough rules.  A key point is that a pension trustee has legally distinct functions, duties and obligations, involving different parties, compared with those that apply as an employee.  Analogies may also be drawn with the Government's published guidance about company directors or volunteer work during furlough leave, both of which indicate that continued work is possible to a greater or lesser extent.

In some cases, however, there may be complicating factors to take into account, such as payment by an employer for acting as trustee, or employment contract terms referencing the trustee role.  Until the Government provides further guidance, cases may need to be discussed between trustees and employers in order to assess any risk to the employer's CJRS claim.