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UK Supreme Court decision on LGPS investment guidance

  • United Kingdom
  • Pensions - Public sector

11-05-2020

Summary

In a judgment handed down on 29 April 2020, the Supreme Court has ruled by a narrow majority that the Secretary of State for Housing, Communities and Local Government exceeded his powers when issuing guidance in 2016 to Local Government Pension Scheme (LGPS) administering authorities which purported to prohibit the adoption of investment policies that are contrary to UK foreign policy or UK defence policy.

In a development which potentially has wider implications, the majority decision also endorses the view that administering authorities of the LGPS have a ‘quasi-trustee’ role, similar to that of the trustees of private sector occupational pension schemes.

Background

The Local Government Pension Scheme (Management and Investment of Funds) Regulations 2016 (the 2016 Regulations) set out the provisions governing the management and investment of LGPS pension funds by administering authorities. Regulation 7(1) of the 2016 Regulations provides for the formulation by administering authorities of an investment strategy statement in accordance with MHCLG’s guidance.

As envisaged by the 2016 Regulations, statutory “Guidance on Preparing and Maintaining an investment strategy statement” was issued by MHCLG on 15 September 2016 and came into effect on 1 November 2016 (the date the 2016 Regulations came into force).

The guidance permitted ethical and social objections to a particular investment to be taken into account. However, it expressly stated that it was “inappropriate” for administering authorities to use pension policies “to pursue boycotts, divestment and sanctions against foreign nations and UK defence industries…other than where formal legal sanctions, embargoes and restrictions have been put in place by the Government”, and that LGPS funds “should not pursue policies that are contrary to UK foreign policy or UK defence policy”. This restriction operated even if the proposed investment policy would not involve significant financial risk to the fund and irrespective of whether there were reasonable grounds to believe that it would be supported by members.

In 2017, a judicial review challenge was brought by Palestine Solidarity Campaign Ltd and a LGPS member, alleging that the Secretary of State had gone beyond the scope of the powers granted to him under the 2016 Regulations by including these passages in the guidance. The High Court agreed, holding that the powers provided by the legislation could only be exercised for pension purposes and that MHCLG had not acted for such a purpose when issuing the guidance.

The Guidance was reissued in July 2017 with the relevant passages removed. However, the Secretary of State appealed the decision and the Court of Appeal disagreed with the High Court, and allowed the Secretary of State’s appeal.

Decision

Essentially, the Supreme Court had to answer the following question: is the power granted to the Secretary of State under the 2016 Regulations wide enough to entitle him to issue guidance which effectively prohibits LGPS administering authorities from pursuing policies that are contrary to UK foreign or defence policy? If that power is not wide enough to allow the Secretary of State to issue guidance in such terms, then it was unlawful for him to do so.

By a 3-2 majority, the Supreme Court found that the Parliamentary purpose in conferring the relevant power on the Secretary of State was to enable him to provide guidance about how administering authorities should administer and manage the LGPS funds, and how, within the investment strategy, they should take ethical considerations into account. However, in the passages which were the subject of the challenge, the Secretary of State had incorporated into the guidance something quite different: an attempt to enforce the government’s foreign and defence policy.

MHCLG sought to justify the inclusion of the relevant wording on the basis that LGPS administering authorities were “part of the machinery of the state”, and that since pension contributions were ultimately funded by the taxpayer, the LGPS funds which were being invested were effectively “public money”.

According to the majority judgment, both of these arguments evidenced a misconception on the part of the Secretary of State. On the first, Lord Wilson commented that “administrators of local government schemes have duties which, at a practical level, are similar to those of trustees and they consider themselves to be quasi-trustees who should act in the best interests of their members. The view, superficial at best, that the administrators are part of the machinery of the state, and are discharging conventional local government functions, fails to recognise that crucial dimension of their role.”

Similarly, Lord Carnwath stated that the simple fact that an administering authority may be seen as a state agency for some purposes does not indicate anything about the legal powers and constraints under which it operates. It was clear from the 2016 Regulations that responsibility for investment decisions rests with the administering authorities, and the same must be true of policy choices in respect of social, environmental, and corporate governance considerations. In short, these choices were not matters for central government.

The second argument relating to LGPS funds being public money was “equally misleading”, according to Lord Wilson: contributions from members are deducted from their income, and contributions from employers are part of the members’ overall remuneration for work performed. Against that background, LGPS funds are not public money.

In conclusion, therefore, MHCLG’s power to direct how the making of investment decisions should be approached did not include the power to direct what investments should or should not be made. The Secretary of State had exceeded the scope of the power conferred on him. Consequently, the inclusion of these passages in the guidance was unlawful.

Comment

Following the Supreme Court’s decision, it is now clear that the legislation does not permit the Secretary of State to impose the government’s view on foreign and defence policy on LGPS administering authorities. Whilst it is not clear whether any LGPS funds are in fact actively seeking to formulate ESG policies which would run counter to UK government policy in these areas, we at least have certainty that it would be lawful for them to do so – provided that the Law Commission’s threshold tests (no significant risk of financial detriment; good reason to believe the policy would have member support) are met.

The judgment also provides helpful confirmation that LGPS administering authorities are not (in that role) merely part of the machinery of the state, undertaking local government functions. The express endorsement by Lord Wilson of the view that administering authorities have duties which are “similar to those of trustees” and of Lord Carnwath that they are “quasi-trustees” of their funds has potential implications beyond the specific investment context of this case, given the extensive case law on trustee duties which is directly applicable in the private sector pensions arena. However, the judgment does not go as far as to say that administering authorities are trustees.

The further comment that LGPS funds represent the members’ money is perhaps a little at risk of being taken out of context, but the underlying reasoning again provides potentially helpful clarity to administering authorities who may be troubled by concerns that they have an overriding obligation to minimise financial burdens on taxpayers. As “quasi-trustees”, LGPS administering authorities can be seen to have fiduciary duties to all stakeholders, including taxpayers (the equivalent of the sponsoring employer in a private sector scheme), but where there is a conflict then the interests of members, who are the primary beneficiaries of the fund, take precedence.