FAQ-32. WHAT DOES "DISCRETIONARY" MEAN?

If Janet bought an annuity in 1991 she almost certainly got a better deal than Jack who bought one in 2001. Jack might well consider himself unlucky but can't reasonably claim unfairness since there were two agreements and each was presumably well understood.

However if Angela, who retired in 1991 with an occupational pension, is reviewing the value of her pension in 2001 then the situation is different - there is only one bargain to consider.

The bargain for your pension (if you are retired) was built up when you were employed and finalised when you retired. It had to be finalised then because at that point you had contributed (in money and work) all that you would/could have contributed. The bargain might be changed later with your approval but it could not be changed unilaterally by the employer - a bargain where one party would contribute all of their part and the other party could later unilaterally decide whether to contribute its part would be so inequitable that it would be no bargain at all.

How is the bargain at retirement determined? One possible answer is that interpreting the trust's deeds is all that is necessary to determine the bargain. This is the caveat emptor (buyer beware) argument used as a defence in the big scandal of private pensions mis-selling. The consumer protection authorities did not accept the argument - they took the view that the consumer could not be expected to detect the situation where the small print implications of what the salesman proposed were not best for them.

Another answer is that the bargain is determined by what the employer communicated and the employee understood as the bargain. With this answer, the trust is just the chosen method for delivering the bargain - it must be fit for that purpose but it does not determine the bargain.

Let us assume that most people (and judges) will give some weight to the second answer. It is particularly relevant to occupational pensions where the consumers are not encouraged to read the deeds, few do, and few would understand them.

Although the bargain is sealed when you retire, different schemes will have different degrees of rigidity/flexibility in what the bargain is. For instance, with respect to the ongoing value of the pension, it might provide for 5% increases each calendar year or it might provide for consideration of economic conditions and comparison with other companies. Where the flexibility prevents complete and exact specifications of what will be delivered to the consumer there has to be an element of discretion in what the provider does. The purpose of this discretion is not to allow the employer to be more or less charitable - pensions are not charity. The purpose of the discretion is to allow a flexible bargain to be honoured.

In the IBM UK case, as you know, the bargain is a flexible one. It built up (unless you only worked recently) within an understanding that IBM employer/employee relations were at one end of a spectrum. IBM was able to recruit and retain the best people because it offered comprehensively good benefits and operated in a way the employees could be proud of. The success of the company and the lack of union influence were consequences of this. Employees felt no need to defend themselves with more detailed and specific contracts.

The pensions in payment bargain was no different from that for other benefits; why would it be? (MIL 785 documents that pensions in payment are included in "all compensation and benefit matters...")

For IBM pensions in payment there is a contrast between the bargain and the outcome. Whether one sees it as between the very best and the very worst, or more as between top quartile and bottom quartile, the difference is large. Given that the bargain was flexible, is that significant? If the difference was due to economic conditions that were special to IBM UK (or its trust) then there would be no cause for complaint - the flexibility in the bargain allows for the possibility that the aim of the bargain may prove economically impossible to achieve. ("Pension Matters Two" described the dominant factor for pensions in payment; it is "affordability".)

The difference, however, is not due to special economic circumstances; it is due to an (unpublicised) mechanical rule of eroding value by 30% of the RPI. (The exactness and repetition of the application of this rule make the rule deducible.) Is this an application of discretion in accordance with the purpose of the discretion, to deliver the pensions bargain?

The law, like much of pensions law, is open to interpretation and leaves plenty of room for different judges to come to different conclusions. The Equitable case was analogous; "Bonuses are determined by directors in the exercise of a discretion" but the discretion has to be exercised to meet a purpose. Various judges came to opposing conclusions but the final verdict upheld the disallowing of "an exercise of discretion reducing the policyholder's reasonable expectation that he would receive...". This was despite Equitable's articles of association giving the directors very wide powers. The verdict is at http://www.parliament.the-stationery-office.co.uk/pa/ld199900/ldjudgmt/jd000720/equite-1.htm

Judges will disagree about the strength of the analogy between private and occupational pensions. One [Lord Pearce [1969] 1 All ER 555 at 577, [1970] AC 1 at 42.] wrote:"These {pensions}, whether contributory or non-contributory, flow from the work which a man has done. They are part of what the employer is prepared to pay for his services. The fact that they flow from past work equates them to rights which flow from an insurance privately effected by him. He has simply paid for them by weekly work instead of weekly premiums." Other judges have reached conclusions that suggest the consumer protection for private pensioners is much stronger than that for occupational pensioners.

The general legal position is clear - "discretionary" powers allow for choice but the choices have to conform to a purpose. What that purpose is will be a matter for each individual case. The purpose can be to honour a bargain established with expectations.

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