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High Court rejects legal challenge by contractors over retrospective extinction of "exit credits"

A High Court judge has rejected a judicial review challenge over the lawfulness of regulations that extinguished contractors’ right to Local Government Pension Scheme “exit credits” with retrospective effect.

The case of Enterprise Managed Service Ltd & Anor, R (On the Application Of) v Secretary of State for the Ministry of Housing, Communities and Local Government [2021] EWHC 1436 (Admin) concerned the Local Government Pension Scheme (Amendment) Regulations 2020/179 ("the 2020 Regulations").

The claimants – Amey Plc and Enterprise Managed Service Limited (EMS) – sought to challenge the lawfulness of regulation 1 of the 2020 Regulations. This gave retroactive effect to amendments made to regulation 64 of the Local Government Pension Scheme Regulations (SI 2013/2356, "the LGPS Regulations"). The claimants also sought rulings about the proper interpretation of regulation 64(2ZAB) of the LGPS Regulations.

Amey and EMS had entered into contracts providing local authority functions under which they were obliged to make pension payments into LGPS funds. They were required to make good any shortfall in the funds if they were in deficit at the end of a contract.

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However, from 2018 onwards, if the pension fund to which they had contributed was in surplus at the time the contracts came to an end, they became entitled to an “exit credit” of the value of that surplus. EMS in one case would have been entitled to £6.5m.

Before Mr Justice Bourne, the claimants contended that:

i) The retrospective extinction, by the 2020 Regulations, of the Chancery claim brought by EMS against Northampton Borough Council, Daventry District Council (as local government employers) and Northamptonshire County Council (the administering authority) for payment of ‘exit credits’ was a violation of its right to a fair trial, contrary to common law and to ECHR Article 6.

ii) The retrospective removal, by the 2020 Regulations, of EMS's right to an exit credit and of Amey's right to exit credits in respect of contracts which expired before those Regulations came into force on 20 March 2020, was a breach of the Claimants' property rights at common law and under ECHR Article 1 of Protocol 1 ("A1P1").

iii) Regulation 3 of the 2020 Regulations should be interpreted as allowing administering authorities, when determining the size of any exit credit, to take account of the fact that the contractor gave the local authority a discount on the contract price in return for the pass-through arrangements in respect of the pensions risk. This was said to be principally relevant to exit credits claimed by Amey in respect of contracts expiring on or after 20 March 2020 (when those Regulations came into force), but was also potentially relevant to EMS's claimed exit credit and Amey's claimed exit credits in respect of contracts expiring before that date.

iv) In the alternative to ground 3, it would be unlawful (irrational, unfair and/or contrary to ECHR Article 14 in conjunction with A1P1) to interpret regulation 3 as providing for the Claimants to be deprived of exit credits because they had entered into pass-through arrangements while contractors who had not entered into such arrangements would not be so treated.

In relation to Ground 1, Mr Justice Bourne found the Secretary of State’s contentions about the merits of the Chancery claim did not prevent Article 6 from being engaged. Nor did state aid arguments prevent EMS from acquiring rights under Article 6 (or A1P1).

The judge said it was “quite clear” that the Secretary of State made a policy decision that exit credits in cases of this kind should not have to be paid. “That included exit credits which were, and were known to be, the subject of litigation such as the Chancery claim by EMS. Therefore, part of the Defendant's intention in introducing the 2020 Regulations was to interfere with (or, to use a less pejorative-sounding word, to determine) the outcome of a class of claim including the Chancery claim. The justification for this measure must be assessed in that light.”

Mr Justice Bourne said the central issue in the case was the public interest reasons for introducing the 2020 Regulations on a retrospective basis so as to defeat claims including the EMS claim.

Counsel for the Secretary of State submitted that EMS's case illustrated the force of the “windfall” arguments. From the evidence of a member of Amey’s strategic pensions team, it appeared that a total of £4.213 million was paid into the LGPS fund by EMS during the lifetime of the contract (though a sum equal to those contributions was part of the contract price paid by the councils). EMS now claimed an exit credit consisting of the entirety of that sum, plus a further c. £2.3 million.

Against that, counsel for the claimants insisted that EMS paid a fair price for the pass-through arrangements because the overall contract price was fixed with regard to all relevant matters including those arrangements.

Mr Justice Bourne noted that the EMS case was “not the only one in which the figures are startling”. He said: “In Ministerial submissions on this subject on 17 September 2019 and 22 January 2020, reference was made to another case in Greater Manchester where a contractor had made pension contributions of around £7 million over a decade and now stood to benefit from an exit credit estimated at around £12.5 million. I have been told that there are also judicial review proceedings in that case which are presently stayed.”

Mr Justice Bourne suggested the situation had arisen through policy error. “The introduction of an unfettered right to an exit credit consisting of the surplus in the fund, though well intentioned, turned out to be a bad idea. That was not because of any technical defect in the operation of the 2018 Regulations. The Defendant, following a consultation, decided that an employer's potential liability to make an exit payment to cover a deficit should be counterbalanced by the potential to receive an exit credit in the event of a surplus. It failed to anticipate that illogical results would follow.”

The judge said that whilst the parties had especially concentrated on pass-through arrangements as weakening or eliminating the need for exit credits, it seemed to him that there was a more general failure to analyse the financial implications of exit credits.

“Whatever agreement a local authority and an employer may have reached about pension risk, it is startling that the exiting employer can receive back, by way of an exit credit, all of its contributions and more. That outcome is all the more startling if the relevant surplus arises from the market performance of funds which had accumulated before the employer joined the LGPS.”

Mr Justice Bourne said that once the lack of logic in the provision of unrestricted exit credits was recognised, there was a strong public interest in remedying the position by enacting the 2020 Regulations, even if that would dash the hopes of employers who were about to exit from the LGPS and receive an exit credit when the 2020 Regulations were brought into effect.

The key question, he added, was whether there was also a sufficiently compelling public interest in making the 2020 Regulations retroactive, preventing the payment not only of exit credits which were anticipated but also of those which had actually fallen due but had not been paid.

The answer was not straightforward, the judge said. However, he found that the Secretary of State was justified in correcting its own policy error with retroactive effect, for the following reasons:

i) Although the exit credits did not result from a mere technical error, they could, at least in some cases, be fairly characterised as a windfall.

ii) The effect of paying exit credits which had fallen due when the 2020 Regulations came into force would be to diminish the ability of the LGPS funds to provide pension benefits, creating a real risk of future deficits which ultimately would fall on local taxpayers.

iii) The benefit of the windfall would be for commercial companies.

iv) Although this was not a case like National & Provincial where the societies could and should have assumed that the authorities would correct the tax position, it was nevertheless a case in which the correction could have been anticipated. Retroactive legislation was expressly under consideration at the time when the Chancery claim was commenced.

v) The Strasbourg cases made clear that the point reached by any relevant litigation before the interference is a relevant factor. This was a case where the proceedings were stayed at a very early stage.

vi) Although the 2018 Regulations created unambiguous rights to exit credits, it did not follow that the Chancery claim was bound to succeed. “I cannot rule on, and am not well placed even to comment on, the merits of the defences, but the councils have raised an arguable contention that, having contracted to share pension risk, the parties impliedly agreed that they would share any "up side" as well as the "down side".”

vii) The extinction of the Chancery claim did not leave EMS with no rights, but instead with a claim for a discretionary exit credit which should be based on a balancing of circumstances weighing for and against such a payment. “That is a more proportionate measure than a simple removal of any claim to an exit credit.”

The High Court judge said he considered there to be compelling public reasons for making the 2020 Regulations retroactive and thereby interfering with EMS’s Article 6 rights. Ground 1 therefore failed.

Mr Justice Bourne dealt with ground 2 more briefly as counsel for the claimants acknowledged that the challenge under A1P1 could not succeed where the Article 6 challenge had failed.

The judge found that any such interference with crystallised rights was justified for the reasons set out under ground 1. “The Defendant's decision, that it was necessary not to make what were seen as undeserved windfall payments, was not manifestly without reasonable foundation.”

Ground 3 only arose if Grounds 1 and 2 failed, and the claimants therefore had no absolute right to an exit credit but instead were reliant on an exercise of discretion by the administering authority under regulation 64(2ZAB). It also applied to claims for exit credits arising after the 2020 Regulations were made, the prospective effect of those regulations not being in dispute.

Counsel for the claimants said Grounds 3 and 4 were “two sides of the same coin, namely the contention that the existence of pass-through arrangements should not be treated as dispositive of a claim for a discretionary exit credit”.

The point arose because of the existence of documents giving the impression that the existence of pass-through arrangements could be dispositive.

Mr Justice Bourne concluded that it was appropriate for the Court to give some clarification about the parameters of the discretion to award exit credits. In particular:

i) The essential obligation of the decision maker is to make a rational and fair application of regulation 64(2ZAB) and (2ZC), giving the words their clear meaning.

ii) Paragraph 7.2 of the explanatory memorandum could give the impression that no exit credit can or should be paid in the circumstances described in that paragraph. That impression would be misleading, because the regulation requires a multi-factorial discretion to be applied, having regard to all relevant facts of which the decision maker is made aware. The regulation does not make any single factor conclusive.

iii) Regard may always be had to the fact that, by the legislation as amended by both the 2018 Regulations and the 2020 Regulations, the Defendant [Secretary of State] provided for the possibility of exit credits.

iv) Regard also may always be had to the fact that, by the legislation as amended by the 2020 Regulations, a multi-factorial discretion was provided to replace, and no doubt was thought to be fairer than, an absolute entitlement.

v) Regard must be had to the relevant factors stipulated at paragraphs (a) to (c) of regulation 64(2ZC).

vi) The regulation does not give primacy to any single factor. The weight given to any relevant factors therefore will always depend on the facts of the individual case.

The judge said that Ground 3 succeeded to that extent, although he added that in his view “it has never given rise to any substantial dispute between the Claimants and the Defendant”.

Ground 4 was therefore academic and no ruling on it was needed, Mr Justice Bourne said..

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