Pensions World

Wendy Hunter and Sarah Macguire, Squire Sanders Hammonds, explain how to set about recovering overpayments of pension benefits.

The overpayment of benefits may occur in a number of circumstances which are often beyond the control of pension scheme trustees, for example, due to an administrative error or where there is a delay in notification of a member’s death.

Pension scheme trustees have a duty to protect the interests of their scheme members. Trustees must ensure that members receive their proper entitlements under the scheme rules and take steps to avoid the overpayment of member’s benefits. Where trustees discover that an overpayment has been made, they must act promptly to resolve the issue.

On discovering an overpayment, trustees must consider its recovery and investigate the circumstances giving rise to it. Trustees must also take action to ensure that any future payments are made correctly.

There may be circumstances where trustees decide that they will not take steps to recover an overpayment, for example, if the costs and administrative inconvenience involved in recovering it are disproportionate to the value of the overpayment itself. In such circumstances, the trustees might wish to “regularise” the overpayment by augmenting the overpaid benefits to the incorrect level using the augmentation power set out in their trust deed and rules. This will usually require consent or direction from the employer and, in some cases, additional employer contributions.

If the trustees wish to recover the overpayment, they should contact the recipient as soon as practicable to explain the error. They should seek to make arrangements with the recipient for them to repay past overpayments and, in most cases, it would be reasonable for the trustees to permit the recipient to repay the amount in instalments. If an overpayment has gone unnoticed for some time, the trustees might decide that the member should be given the same length of time to repay (although this can result in claims against an estate if the member dies before the end of the repayment period).

Unwilling to repay

But what happens if the recipient is unwilling to repay the overpayment or if the trustees cannot trace the recipient? If the trustees have located the recipient, but they fail to respond or refuse to make arrangements to repay the appropriate sums then the trustees should consider bringing action against the recipient for repayment through the courts, although this is likely to be a time consuming and expensive route.

Another more practical way of recovering overpaid sums is to reduce the recipient’s future pension payments. The Pensions Ombudsman has accepted that trustees do not need a specific power in their trust deed and rules to do this. In addition, such reduction would not be caught by s91 of the Pensions Act 1995 by virtue of s91(5)(f) which permits the set-off against a person’s entitlement or right “for the purpose of discharging some monetary obligation due from the person in question to the scheme arising out of a payment made in error in respect of the pension”. However, if the member disputes the amount of the reduction, the matter can only be settled by a court or arbitrator which would lead to further litigation and also costs.

Alternatively, trustees could seek to recover the cost of the overpayment by bringing a claim against a third party if they have reason to believe that they were responsible for making an error which led to the overpayment, for example, a scheme administrator who has failed to administer the scheme with due skill and care or has breached its terms of appointment. However, as with most litigation, this course of action will be both costly and time consuming and the trustees would be required to show that they have tried to mitigate their loss by attempting to recover the overpayment from the recipient in the first instance.

Legal claims

If the trustees decide to sue the recipient for repayment of the overpaid sums then there are a number of defences available to the recipient.

Case law has shown that to successfully defend a claim for repayment, the defendant must show that they have changed their position as a result of the overpayment. In the case of Gordon Derby v Scottish Equitable Plc [2001] 3 All ER 818, which concerned an overpayment from a personal pension policy, it was not enough that the defendant had acted to his detriment by using part of his pension to settle his mortgage or that he had increased financial commitments resulting from his separation from his wife. It seems that this defence will only succeed where the defendant has spent the money in return for a consumable product or service (ie food and drink or a holiday) or where the recipient has made a gift to charity.

The defence of estoppel might be available to the defendant, although they would need to show that they have relied on a statement of fact to their detriment, that they have changed their position as a result of that statement and that the overpayment was not the defendant’s fault.

When pursuing the recipient through the courts, the trustees must keep a close eye on the relevant period set out under the Limitation Act 1980. The trustees should be aware that if they are seeking to recover an overpayment on the grounds of mistake, the six year limitation period will start running from the date that the mistake is discovered or should have been discovered.

Unauthorised payments

Overpayments which are not recovered may be reportable to HM Revenue & Customs (HMRC) as “unauthorised member payments” as defined in the Finance Act 2004. In such circumstances, the recipient of the overpayment might face an “unauthorised payment charge” of up to 55% and the pension scheme might be liable to pay a “scheme sanction charge” of up to 40% of the aggregate amount of unauthorised payments made in each tax year (although any unauthorised payment charge actually paid by the recipient can be set off the scheme sanction charge, up to a maximum of 25% of the amount of the unauthorised payments).

The taxation legislation does provide some recognition that administrative errors or practical difficulties do arise by specifically allowing some overpayments to be treated as authorised member payments by virtue of the Registered Pension Schemes (Authorised Payments) Regulations 2009. In such circumstances, there is no requirement to report the overpayment to HMRC and there will be no tax charge.

Payments covered by the Regulations include (but are not limited to) overpayments made prior to 6 April 2006, payments made on or after 6 April 2006 in error and payments of arrears of pension due after the death of a member. A member who has paid an “unauthorised payment charge” in respect of an overpayment which is no longer taxable because of the retrospective effect of the Regulations can recover the tax that they have paid by amending their self-assessment tax return to reflect this.

If the overpayment is not caught by the Regulations then the trustees might ask HMRC to use its power under s268 of the Finance Act 2004 to discharge the scheme administrator’s liability to pay the “scheme sanction charge”, on the grounds that it would not be just and reasonable for the scheme administrator to be liable in respect of the overpayment. We know of at least one occasion where HMRC has agreed to grant trustees a discharge although the facts of the case are highly unusual.

In summary, the member retired overseas in June 2005 and, in accordance with the member’s instructions, the trustees paid his pension into his overseas bank account. In July and October 2009, correspondence to the member was returned and, following an overseas pensioner tracing exercise, the member’s pension was suspended. The tracing exercise revealed that the member had subsequently moved to another country, had been convicted of murdering his wife in some form of Satanic ritual, and that he had died while imprisoned at the beginning of January 2010. In this case, the trustees had made efforts to recover the pension payments but had been unsuccessful and concluded that the costs of pursuing the matter any further would be disproportionate. In light of the facts of this case, HMRC agreed to discharge the scheme administrator’s liability to pay the scheme sanction charge.