Adjustment (check) of pension benefits according to Section 16 BetrAVG 2022/2023

The considerable additional expense from a continued adjustment of pension benefits pursuant to the development of the consumer price index would specifically be recorded on three levels: (1) It affects the company pension adjustments to be carried out in the current financial year. (2) It affects, at the balance sheet level, the actuarial calculation of the pension provisions to be made for the pension obligations. (3) It covers the vested pension rights of retired members of the pension scheme, provided that the employer establishes the required equivalence for the members of the pension scheme with active employees by means of the adjustment check according to Section 16 of the German Company Pensions Act (Betriebsrentengesetz, "BetrAVG") (Section 2 a (2) s. 2 no. 2 lit. c) BetrAVG).

The consumer price index developed by an average of 1.41% annually in the period between the calendar years 2009 and 2021 and employers usually limited the pension adjustment to this amount. Employers have most recently calculated pension provisions (usually for the 2021 financial year) with an annual pension increase of between 1.5 % and 2 %. Due to the high inflation of the past months, however, it is already foreseeable that the next pension increase will be higher than the valuation assumed, regardless of the selected pension trend. A one-time pension adjustment of 7 %-10 % can be expected, which must already be taken into consideration for the current financial year/valuation target date and will increase the pension provision accordingly. The exact value depends on the pension adjustment rota.

1. The initial parameters for the adjustment check under company pension law: adjustment time, adjustment period and adjustment target date

Section 16 (1) BetrAVG requires the employer to review an adjustment of the current benefits from the company pension commitments every three years and to decide on this at its reasonable discretion, taking into account above all its economic situation and the interests of the pension beneficiary.
The adjustment period generally begins on the day from which the pension beneficiary can individually claim the benefit. Bundling of check dates is permissible according to the case law of the German Federal Labour Court for reasons of practicability. The employer may combine the adjustment checks due in one year. It may also carry out the adjustment as a whole only every three years if it already increases the benefits to the new pensioners at the next general adjustment date, as this is to the advantage of the pension beneficiary. Employers who apply these guiding principles therefore need to carry out the adjustment check (only) every three years on an adjustment target date.

Example 1: If the employer has set the general adjustment target date for the first time on to 1 January 2008, he has to carry out the next adjustment check for all pension beneficiaries and for all retired members on 1 January 2023.

2. The specific adjustment check - adjustment claim pursuant to the company pension commitment: interpretation of the adjustment provision, "1 % clause"

The specific adjustment check must be carried out on the basis of the specific content-related structural design of the company pension commitment.
If the company pension commitment contains an independent adjustment provision, this is the starting point for the specific check.

Older company pension commitments often stipulate the amount of the adjustment by reference to collective wage developments or the remuneration development of certain employee groups. In this case, the employer must determine the remuneration reference groups referred to by interpreting the adjustment clause. Challenges exist if the employee group referred to is no longer employed in the company. Solutions that are in the interests of the parties and at the same time legally compliant must be developed according to the legal principles of supplementary contractual interpretation developed by the German Federal Labour Court.

Example 2: The adjustment clause of a pension commitment granted in 2000 stipulates a pension adjustment in the amount of the wage increase of the employer's sales force employees working in the field. The employer restructured the sales force in 2010 and transferred it to a third party, so that on the adjustment target date there are no longer any sales force employees working in this field in the company. In such a case, the reference group for the adjustment is to be stipulated on the basis of suitable comparison parameters (depending on the remuneration system, e.g. on the basis of active employees comparable to the remuneration structure of the sales force at that time).

More recent company pension commitments often contain a contractual adjustment clause with an annual adjustment of the pension benefits of 1%. If these company pension commitments were made after 31 December 1998, the employer can already meet the pension beneficiary's adjustment claim with such a pension adjustment. A separate statutory adjustment is then no longer necessary (Section 16 (3) no. 1, 30c (1) BetrAVG). Please note that this statutory adjustment relief only applies to company pension commitments that were first made after 31 December 1998. If the company pension commitment was already made before 1 January 1999 and originally contained such a 1% clause or if the 1% clause was included in the company pension commitment for the first time after 31 December 1998 due to a modification of the company pension commitment, the employer must carry out the statutory adjustment check according to Section 16 BetrAVG in addition to the contractual adjustment.

Example 3: The employer issued the company pension commitment as a works agreement on 3 May 1996 (BV 1996). The BV 1996 stipulates a pension adjustment 'according to the legal requirements'. On 5 June 2000 the employer concludes a supplementary agreement to the BV 1996 with the works council which stipulates an annual pension adjustment of 1% for all pension benefits due from 1 January 2001. The statutory adjustment regulations according to Section 16 BetrAVG remain applicable in this case in addition to the BV 1996.

3. The specific adjustment check pursuant to Section 16 BetrAVG I: Adjustment pursuant to Section 16 (2) BetrAVG as a rule and as an exception not meeting the adjustment requirement in the event of an insufficient economic situation of the employer

The statutory adjustment check, with the exception of the 1 % clause in an company pension commitment issued after 31 December 1998 as mentioned under No. 2, must be carried out in addition to and independently of the adjustment check in accordance with the adjustment regulations in the company pension commitment, whereby any adjustment of the pension benefits in accordance with the company pension commitment can as a rule be counted towards any statutory adjustment of the pension benefits in accordance with Section 16 BetrAVG - if the corresponding provision is made in the company pension commitment.

Section 16 BetrAVG stipulates as a rule-exception principle that the pension beneficiary is generally entitled to a pension adjustment according to Section 16 (2) BetrAVG (adjustment requirement) and the employer can only as an exception carry out the adjustment below the adjustment requirement (up to omission of the adjustment) if the adjustment check according to Section 16 (1) BetrAVG proves that an adjustment is not or not completely owed due to the employer's economic situation and its related (merely) limited economic situation.

4. Adjustment check according to Section 16 BetrAVG II: Specification of the insufficient economic situation - Predicted insufficient return on equity/equity base on the basis of an ex-post assessment

The German Federal Labour Court has further specified the requirements for the - lack of - economic viability. The employer is (only) required to make an adjustment if it can be assumed on the basis of a prediction on the adjustment target date that it will be able to carry out the adjustment in the specific amount from the increase in value and the income of its company. Decisive assessment parameters for this are the - adequate - return on equity and the - sufficient - equity base. If the return on equity is insufficient, the company's profitability is not sufficient to finance the adjustments. If the equity base is insufficient, lost assets must be built up again before the company can be expected to adjust company pensions.

For this purpose, the German Federal Labour Court takes a holistic view; it assesses the economic situation as a future-related variable, for which the previous economic development can be used as an indicator, insofar as this allows conclusions to be drawn about the future development. The retrospective view must cover a period of (at least) three years. As an exception, a longer period may be used if the subsequent development of the economic situation leads to justified doubts about the reasonableness of the employer's prediction. Future developments are (only) to be considered if they have already materialised at the time of the audit. Later unexpected changes in the economic situation can only be taken into consideration in the next adjustment check.

The return on equity is calculated from the ratio of profitability and equity base (each pursuant to the German Commercial Code). In a simplified illustration, profitability refers to earnings before taxes adjusted for extraordinary income (adjusted EBT). The equity base includes share capital, capital reserves, retained earnings, profit and loss carryforwards and net income/loss for the financial year. The return on equity is insufficient if it does not meet the interest rate to be determined from the current yield of public bonds and a risk premium of 2 %.

Example 4: The employer's company has achieved negative adjusted EBT in each of the last three financial years. An adjustment of the pension benefits must (already) be omitted due to the negative profitability if the business planning for the adjustment period predicts a continued negative development of the adjusted EBT.

5. Adjustment check according to Section 16 BetrAVG III: Adjustment period, retrospective adjustment and justified omitted adjustment

The adjustment period extends from the individual pension starting date to the adjustment target date. If an adjustment has not been carried out in previous periods, not only the adjustment-relevant amount pursuant to Section 16 (2) BetrAVG of the last three years, but also the adjustment requirement since the start of the pension must be taken into account for the next adjustment target date (retrospective adjustment).

If current benefits are not adjusted or not fully adjusted according to Section 16 (1) BetrAVG (rightfully omitted adjustment), the employer is not obliged to make up for the adjustment at a later point in time (Section 16 (4) s. 1 BetrAVG). An adjustment is considered to have been justifiably omitted if the employer has informed the beneficiary in writing of the economic situation of the company on the relevant adjustment target date, the beneficiary has not objected in writing within three calendar months after receipt of the notice and he/she has been informed of the legal consequences of not objecting within the time limit (Section 16 (4) s. 2 BetrAVG). The German Federal Labour Court imposes restrictive requirements on the content of the written statement - in essence, the employer must present the economic situation to the pension beneficiary with the data set out in No. 5 in such a comprehensive and transparent manner that the beneficiary can independently assess from the documentation alone whether/that the employer is justified in omitting the specific adjustment. In practice, employers must therefore weigh up the challenges resulting from the notice of the relevant economic data in individual cases against the chance of the fiction of the rightfully omitted adjustment stipulated as a legal consequence in Section 16 (4) s. 2 BetrAVG.

6. Adjustment check according to Section 16 BetrAVG IV: Need for adjustment, real wage development of comparable groups of employees

In respect of the amount, the adjustment requirement pursuant to Section 16 (2) BetrAVG can alternatively be fulfilled by a pension increase by the development of (1) the CPI or (2) the net wages of comparable groups of employees of the employer's company. According to the intention of the legislator, the net wage development according to Section 16 (2) no. 2 BetrAVG should limit the CPI development according to Section 16 (2) no. 1 BetrAVG for the relevant adjustment period in terms of amount to the real wage development of comparable employees, since the preferential treatment of pension beneficiaries with regard to the CPI-related inflation compensation that would otherwise occur would meet with incomprehension from the active workforce and would generally be difficult to reconcile with the economic situation of the company. Section 16 (2) BetrAVG limits the adjustment requirement owed according to Section 16 (1) BetrAVG to the "increase" in net wages in the review period.

The BetrAVG does not contain a legal definition or statutory examples of what is to be regarded as comparable groups of employees of the company pursuant to Section 16 (2) no. 2 BetrAVG. The case law has also not (as far as can be seen) specified this group of persons. The German Federal Labour Court grants the employer a wide margin of appreciation with regard to the formation of comparative groups. As long as the decision is objectively justified on the basis of clear and merit-based delimitation criteria, the employer can therefore make both a rather rough and a rather fine classification of the comparison group. Active employees as well as employees who joined the company after the pension beneficiary's retirement are to be taken into account. A stipulated group formation is not required; the German Federal Labour Court has established the legal principle that the guiding principle of Section 16 (2) no. 2 BetrAVG does not refer to the employer's entire workforce as a standard of comparison but requires an earnings-related delimitation at a decided level. The employer's discretion is therefore not exceeded if the grouping is based on clear, earnings-related criteria and the decision thus appears to be appropriate.

7. Change from CPI development to real wage development between two adjustment target dates?

In practice, against the background of the current CPI development, it is discussed whether the employer can switch from the CPI development to the real wage development approach (and vice versa) between two adjustment target dates.

Undeniably, a retrospective change from CPI development to real wage development can be carried out for the entire adjustment period.

Example 5: The pension beneficiary has been receiving pension benefits from his company pension commitment since 1 December 2013. The employer has made pension adjustments in 2016 and 2019 based on the CPI development (Section 16 (2) no. 1 BetrAVG). Without further action, he can change the adjustment to 1 December 2022 for the entire adjustment period to the real wage development according to Section 16 (2) no. 2 BetrAVG.

In practice, the question of whether the subsequent change can also only cover part of the adjustment period has not yet been clarified.

Example 6: In a variation of Example 5, the employer wishes to make the adjustment on the adjustment target date of 1 December 2022 based on real wage trends only for the subperiod of the adjustment period from 2019 to 2022 and continue the adjustment based on CPI trends for the subperiod from 2013 to 2019.

In some cases, a subsequent change is only denied for partial periods of the adjustment period. A judgement of the German Federal Labour Court of 18 March 2014 (3 AZR 249/12) is often used as justification, in which the German Federal Labour Court stated that the examination period for Section 16 (2) no. 2 BetrAVG and the comparative consideration of Section 16 (2) no. 1 BetrAVG must cover the period from the individual pension starting date to the adjustment target date. In practice, this judgement is sometimes understood to state that the German Federal Labour Court has established the legal principle in general for the alternative application of Section 16 (2) no. 1 and (2) no. 2 BetrAVG and that a change limited to subperiods is not applicable.

However, this derivation under company pension law is not mandatory. The German Federal Labour Court evidently established the aforementioned legal principle with reference to the specific facts of the case, in which the first adjustment was due in 2008 for the pension beneficiary after the occurrence of the insured event in 2005, the employer used the real wage development for the period from 2004 to 2007 for the assessment of Section 16 (2) No. 2 BetrAVG and (already) therefore the adjustment and examination period did not correspond to each other in terms of time.

In view of the limiting function of Section 16 (2) no. 2 BetrAVG as explained under No. 6, it is permissible under company pension law to also plausibly apply to the individual adjustment target date and the CPI development to be completed since the previous adjustment target date if the employer has properly carried out the respective adjustment check in the past according to Section 16 (1), (2) no. 1 BetrAVG. In this case, the pension adjustment on the adjustment target date compared to the last adjustment check carried out properly corresponds to the CPI development since the last adjustment target date - and the corresponding limitation of the real wage cap also for this this period can be based on the limitation function.

8. Conclusion: Adjustment test 2022/2023 - Application of the design options and restrictions of § 16 BetrAVG as required

Employers should take the current economic framework conditions (including the recent inflation trend) as an opportunity to conduct the adjustment check to be carried out on the next adjustment target date with a holistic assessment and associated application of the structural design options and restrictions stipulated in Section 16 BetrAVG as required.

_{Published: December 2022}