Pension schemes may need to obtain funding to acquire investment assets or for temporary liquidity. Occupational schemes with fewer than 100 members (such as SSASs) and other types of pension schemes (such as SIPPs) can borrow for these purposes, but only if their trust deed and rules permit them to do so. Occupational pension schemes with more than 100 members may only borrow for temporary liquidity.
The pension scheme can borrow as long as its trustees are satisfied that any borrowing is consistent with their fiduciary duties and with the main purpose of the scheme, ie the provision of retirement benefits (and their trust deed and rules permit it). Here, we set out our top tips to remember when considering lending to a pension scheme:
Power to borrow
Check the trust deed and rules to ensure the scheme has the power to borrow and grant security and ensure that the borrowing seems to be consistent with the purpose of the scheme (and not actually for the benefit of any sponsoring employer or member in his or her individual capacity).
Ensure all trustees sign the loan agreement and other documents (or be satisfied that the trust deed allows only some of the trustees to bind the scheme and that they have been appropriately authorised by the board of trustees).
Covenant to pay
The lender must be comfortable with the fact that the covenant to pay is usually of limited recourse; trustees are only bound in their role as trustees and, professional trustees in particular, will usually seek to include a limited recourse clause in the documentation which states that their liability is limited to the value of the scheme’s assets; whether this is included for member trustees depends on their bargaining position and the lender’s view on the security. The lender can’t pursue the trustees personally for the loan or potentially have recourse to any other assets which it doesn’t have security over.
Pension schemes are restricted in the amount they can borrow under the Finance Act, which is broadly 50 per cent of the assets measured on the day that the loan is taken out. This is applicable to all borrowings of the scheme (ie not on an asset by asset basis). Breaching the limit does not make the loan unenforceable or illegal, it just has severe tax consequences for the trustees.
Amongst others, the lenders should include additional conditions precedent in the facility agreement relating to:
- delivery of trust deed and rules.
- resolutions of the board of trustees (rather than the directors).
- provision of a legal opinion from the trustees’ solicitors co-addressed to the lender.
- a valuation of the scheme’s assets (for checking that 50 per cent borrowing limit).
Representatives and warranties
The lender should include representations and warranties that:
- the scheme has fewer than 100 members;
- the trust deed and rules give the trustees the full power to borrow and grant security;
- the individuals signing the finance documents have full authority to bind the trustee body in full;
- the trustees have confirmed that entering into the finance documents is in the best interests of the scheme and is consistent with the purpose of the scheme;
- the scheme has not made any unauthorised payments; and
- the loan in question does not cause the scheme’s total borrowings to breach the limits set out in the Finance Act and, therefore, give rise to the tax charges.
Restrictions on amendments to trust deed and rules
Include restrictions on amendments to trust deed and rules without lender consent or undertakings relating to delivery of up to date information.
Include continuity provisions in the loan agreement for the retirement and appointment of new trustees.
Insolvency events of default
The insolvency events of default in the loan agreement should be carefully considered and amended – normal corporate insolvency events are not appropriate for pension schemes. Alternative suggested provisions are that it be an event of default if the sponsoring employer is insolvent (in the case of a SSAS), if the scheme loses its registered status, if the scheme’s borrowing exceeds 50 per cent of its assets, if the scheme makes any unauthorised payments or if it is wound up.
The financial covenants should reflect that the scheme has a restricted borrowing limit under the Finance Act and it may, therefore, be appropriate to include a loan to value covenant relating to the entirety of the scheme’s borrowing and assets as well as just any charged property.
Of course, the requirements of every transaction differ, but we hope you find these tips useful as a general overview of things to take into account when considering lending to a pension scheme.