Contractual Trust Arrangements as internal liquidity source within company pension schemes
Options and restrictions in practice
In their attempts to secure the liquidity necessary for their business operations, companies are currently looking for internal sources of liquidity. Trust assets from contractual trust arrangements (CTAs) are sometimes identified as one possible source. For this purpose, the trustee would have to transfer the relevant CTA trust assets back to the company.
1. The starting position: Double-sided CTA as standard arrangement in company pension practice and nettable plan assets
Contractual Trust Arrangements, or, in short, CTAs represent the standard instrument for the (out-) financing of pension commitments in the form of direct commitments. From the employer's point of view, this primarily serves the purpose of taking pension provisions off the balance sheet but also the purpose of ensuring insolvency protection under private law of those pension claims that are not covered by the statutory insolvency protection (via the PSV) pursuant to Sec. 7 et seq. of the German Company Pension Scheme Act (BetrAVG). In practice, so-called double-sided CTAs have become market standard, at the latest since the judgement of the German Federal Labour Court (Bundesarbeitsgericht, BAG) of 18 July 2013 (6 AZR 47/12). In this ruling, the BAG assumed the resistance to insolvency of a double-sided CTA when it comes to the insolvency protection of credit balances of employees from part-time employment relationships with older employees. The double-sided CTA comprises the trustee's administrative trust relationship with the employer for the administration of the trust assets as well as the security trust relationship between the trustee and the pension beneficiary, which is aimed at fulfilling the company pension commitment in the defined security cases.
The outsourcing of pension provisions for accounting purposes requires that the trust assets which the trustor contributes to the CTA - depending on the applicability of German GAAP/HGB or IFRS accounting approach - meet the balance sheet requirements as netting cover assets (section 246 (2) sentence 2 HGB) or as netting plan assets (IAS 19.8). A common feature of both accounting approaches is that the ability to offset requires, among other things, that the conditions of exclusivity of purpose and the prohibition of retransfer are met. The exclusivity of purpose requires that the trust assets contributed to the CTA by the trustor may only be used to meet the claims of the beneficiaries. The prohibition of re-transfer stipulates that a retransfer of the trust assets to the settlor is fundamentally excluded and may only be made in exceptional cases as a return due to excess cover/overcollateralization or to reimburse the settlor for payments already made by the latter to the beneficiaries.
2. The standard cases: Reassignment in the event of excess cover/overcollateralization and shortened period of reimbursement of pension benefits
Theoretically, also in the context of current liquidity protection measures companies continue to carry out the retransfer of trust assets in the event of over-collateralization. From an accounting perspective, pension obligations must with sufficient certainty be covered by the trust assets remaining in the CTA. The permissible amount of the trust assets that can be re-transferred is determined by the contractual structure of the CTA. Many trust agreements provide for buffers of up to 15% of the trust assets exceeding the respective secured pension obligations to provide adequate security for the asset coverage.
A short-term liquidity effect can also be achieved in individual cases by shortening the period for reimbursement of the pension benefits paid out by the trustor, for example from an annual reimbursement cycle to a monthly reimbursement cycle.
3. The special path: retransfer even with an underfunded CTA?
In the current financial and economic environment, companies are occasionally looking for ways of re-transferring the trust assets even in the case of CTAs which are not fully funded. The starting point for such transfers is the modification of the purpose exclusivity of the trust assets to an insolvency protection of those parts of the pension claims of the beneficiaries only, which is not covered by the statutory insolvency protection according to Sec. 7 BetrAVG. The modification of the purpose exclusivity generally affects the legal position of the beneficiaries from the security trust and the associated modification of the trust agreement generally requires the consent of the beneficiaries.
If a works council has been elected at the employer, the employer will in practice seek the anchor for the agreement of the pension beneficiaries by concluding an agreement on the modification of the trust agreement with the works council, which works council will conclude the agreement acting as representative and on behalf of the pension beneficiaries.
The admissibility of such a procedure under employment and accounting law has not yet been conclusively clarified. Under German employment law, it is relevant whether or not the works council can also conclude the agreement as a representative of the pension expectants who have already left with non-forfeitable entitlements, of the beneficiaries and/or their survivors. Under German works constitution regulations, this cannot be assumed without further ado, on a general consideration. In individual cases, effective representation of the aforementioned group of persons by the works council may be considered if the company pension commitment secured by the CTA is regulated in a works council agreement/shop agreement (Betriebsvereinbarung) and the insolvency protection provided by the CTA is included in such agreement. Managerial employees within the meaning of Sec. 5 Para. 3 of the German Works Constitution Act (Betriebsverfassungsgesetz, BetrVG) as pension beneficiaries are excluded from representation by the works council in any case - in practice an agreement with the spokesperson committee may be considered for this group of employees. The trustor may argue that the alternative of obtaining the individual consent of the individual pension beneficiaries, which is possible from the point of view of employment law, should be based on a reference to the economic equivalence of the initial pension benefit included in the occupational pension commitment. However, this brings along a considerable administrative burden and is associated with considerable factual uncertainty with regard to the actual approval rate, especially with regard to the group of pension expectants who have already left with non-forfeitable entitlements, benefit recipients and surviving dependents. In addition, when deciding on the approval, the pension beneficiary must take into account the fact that the statutory insolvency protection does not extend to any subsequent adjustment of pension benefits from the occupational pension commitment pursuant to Sec. 16 BetrAVG.
From accounting law perspective, the competent Technical Committee of the Institute of Public Auditors in Germany (Fachausschuss der Unternehmensberichterstattung des Instituts der Wirtschaftsprüfer e.V. (FAB)) in its meeting of 15 May 2020 has taken a balanced and differentiating position on the admissibility of such a modification of the trust agreement: A modification of the CTA that does not consider the interests of the beneficiaries (and here in particular their legal position under insolvency law with regard to the pension claims secured by the CTA in the further concrete implementation of the CTA), should generally be impermissible under accounting law, whereby in the event of a unilateral change option by the trustor as defined in the CTA, the characteristic of plan assets/funding assets shall cease to apply from the beginning (ex tunc) and in the event of a change option with the consent of the beneficiary, the characteristic of plan assets/funding assets shall cease to apply from this further change date (ex nunc). If the interests of the pension beneficiaries are safeguarded with regard to the specific change, a modification shall be permissible in individual cases, whereby the statutory insolvency protection under Sec. 7 BetrAVG, which is to be recorded after the amendment of the trust agreement, does not include such safeguarding of interests.
4. Epilogue: Structuring in line with requirements, taking into account all the interests of the individual case as a success factor
In individual cases, a retransfer of (a part of the) trust assets under CTAs can contribute to improving the liquidity situation of the company as a trustor. The admissibility of such a retransfer under employment and accounting law depends in each individual case on the content of the trust agreement and the legal basis of the occupational pension commitment with the pension claims secured by the CTA.
A careful analysis must be carried out in particular where companies consider a re-transfer of trust assets from an underfunded CTA. In any case, both the company’s legal advisers as well as the company’s auditor should be involved in the actual planning and implementation of any changes to be made to the CTA in order to ensure both a lawful implementation under employment law as well as the continued netting of pension obligations with the remaining trust assets as plan assets or cover assets under accounting provisions.