Op-Ed: “EU Pension Taxation: Removing Another Brick in the Wall?” by Hans van Meerten and Philip Bennett
On 11 November 2021, the Court of Justice (Third Chamber) decided the case of MH and ILA (Pension rights in case of bankruptcy) (C-168/20). There was no Opinion by the Advocate-General. Although usually a sign that the case was not that important, there are exceptions. This seems one of them.
This stems from a reference from the High Court of Justice of England and Wales (‘the High Court’) to the Court of Justice. The referred question related to the differential treatment, on bankruptcy of the scheme member in the UK, of his pension rights as a member of an Irish tax approved pension scheme compared to what the treatment of those rights would have been under a UK tax approved pension scheme. Despite Brexit, the timing of the facts was such that reference could still be made to the Court of Justice (judgment, paragraphs 57-59).
More specifically, the question was whether that differential treatment amounted to indirect discrimination against the Irish national who had moved to the UK and infringed that individual’s rights under Article 21 TFEU (freedom of movement), Article 49 TFEU (freedom of establishment, including pursuing activities as a self-employed person) and Article 24 of the Citizens’ Rights Directive (Directive 2004 38/EC).
The amounts of money involved were substantial. The member’s pension rights were valued in August 2020 by the trustees in bankruptcy at 8.5 million euros. That value was disputed by the member. The claims on the member’s bankruptcy estate were in excess of 1 billion euros (judgment, paragraphs 28-34).
In brief, where an individual, who is a member of a UK tax approved pension scheme, including certain overseas pension schemes which satisfy some additional requirements, (a ‘Gold Standard Scheme’) becomes bankrupt in England, Section 11 of the UK Welfare Reform and Pensions Act 1999 (‘the WRPA 1999’), says that the pension rights under such a scheme of such an individual are not part of the estate of the bankrupt that can be used to satisfy claims of the bankrupt’s creditors.
There are two limited exceptions. The first is under Section 15 of WRPA 1999, where the rights under such a Gold Standard Scheme have derived from ‘excessive pension contributions’. The second is under Sections 310 and 310A of the UK Insolvency Act 1986, where the trustee in bankruptcy can claim certain income payments for a limited period of up to three years out of those pension rights.
In contrast, where the member’s pension rights are under an non-tax approved scheme (a ‘Bronze Standard Scheme’), the effect of Section 12 of the WRPA 1999 is that those rights form part of the bankrupt’s estate available to his creditors unless a court order (or a qualifying agreement) is obtained that all or that part of those rights are to be excluded from his bankruptcy estate to meet the future likely needs of the bankrupt and his family.
Linked to the question referred to the Court of Justice by the High Court where the ancillary questions of whether it relevant or necessary:
- to determine whether the individual moved to the UK in order, primarily, to declare his bankruptcy in the UK;
- to take into account (i) the protections which may be available to the bankrupt individual in respect of Bronze Standard Schemes, and (ii) the possibility for the trustees in bankruptcy to recover sums in respect of Gold Standard Schemes under the two exceptions referred to above;
- to take into account the requirements to which pension schemes registered and tax approved in the UK (namely Gold Standard Schemes) are subject.
The Court of Justice decided that, on the given facts, Article 49 TFEU would be infringed by the differential (less advantageous) treatment accorded to the individual’s pension rights under his tax approved Irish pension scheme relative to his rights under a Gold Standard Scheme unless the ‘objective justification’ defence applied.
In brief, the objective justification defence is that the restriction on the freedom of establishment (namely the indirect discrimination against the Irish national in respect of his Irish tax approved pension scheme benefits on his bankruptcy in the UK) imposed by Sections 11 and 12 of the WRPA 1999 is justified insofar as it:
- furthers an overriding reason relating to the public interest,
- is appropriate to ensure that the objective it pursues is achieved, and
- does not go beyond what is necessary to achieve that objective (judgment, paragraph 124).
Of course, this is standard Court of Justice’s case law.
Was this decision a surprise?
In our view, prima facie, no. There was a clear difference of treatment which, equally, clearly amounted to indirect discrimination on grounds of nationality subject only to the objective justification defence. Whether the objective justification defence succeeds will be a matter for the referring court − in this case, the High Court − to decide.
However, given the absence of objection by the UK Government, the views expressed by the UK Government Insolvency Service as to the need for parity of treatment and the comments expressed by the Court of Justice (at paragraphs 110-123 of the judgment), we would expect the High Court to decide that Mr M’s pension rights under his Irish tax approved pension scheme will be accorded the same treatment for the purposes of bankruptcy as if they were rights under a Gold Standard Scheme.
Implications of the case: a narrow view
A narrow view would be that this case is confined to the differential treatment on bankruptcy in facts similar to those of this case. Post Brexit, this is likely, in practice, to relate to a very small group of individuals.
The wider implications: preliminary
Before moving on to what we consider could be the wider implications of this decision in respect of pension schemes and individual movement within the EU, it may be useful to summarise (in high level terms) the main legal rules which apply when a provision in the TFEU has direct (horizontal) effect.
- Rule 1: If a TFEU Article is clear as to its terms, it can have direct effect and even creating horizontal rights (see here). Domestic courts should use the interpretative tools at their disposal to construe domestic legislation in harmony with the direct effect of the TFEU provisions. If they cannot, they must set aside domestic legislation which is incompatible with the directly applicable TFEU Article rights. Examples include those relating to freedom of movement of goods, persons, services and capital, which are fundamental provisions of EU law and where any restriction, however minor, is prohibited (standard case law, but repeated here in this case (at paragraph 105) unless an objective justification defence can apply (paragraph 107).
- Rule 2: A Directive can be viewed as adding specificity to directly applicable TFEU Articles. But, if there is a conflict between the horizontal rights conferred by the TFEU or the Court of Justice’s case law, and the domestic legislation correctly transposing the Directive (for example, where the Directive authorises a specific exemption), the TFEU Article prevails (see, for example, Test Achats, C-236/09). Below we discuss this further.
- Rule 3: In high level terms, under the EU Treaties the Member States cede certain rights to the EU legislator with the Court of Justice determining where the boundaries lie. This has given rise (and will continue to do so) to many legal conflicts between the Member States and the EU. Currently, there is quite an interesting point where the Member State has a written constitution which is ‘guarded’ by its constitutional court and the Court of Justice’s decision is encroaching on the Member State’s constitution: the issue is whether the Member State could have agreed to join the EU on terms which might exceed its constitution in the light of the way the Court of Justice has subsequently interpreted the scope of EU Treaties.
- Rule 4: For fields completely outside the scope of the EU Treaties, perhaps more theoretical than real, domestic law alone in principle determines the legal position of a Member State. But some ostensibly out of scope fields which conflict with the scope of EU Treaty provisions as interpreted by the Court of Justice, yield to the EU Treaty provision. For example, national taxation powers are not EU harmonised, but the national legislation might infringe EU State aid rules and/or the freedom of capital ex Article 63 TFEU (see here).
The wider implications for the IORP II Directive and cross-border pension provision
Above we stated that, prima facie, the Court of Justice’s decision in this case is not surprising. However, below the surface we see another potential ramification of this judgment.
One of the aims of the EU ‘Pensions Directive’ − the IORP II Directive (Directive 2016/2341) − is to encourage the freedom of movement of workers within the EU and the freedom of provision of service and to create an internal market for pension provisions. However, regulation of pensions in the EU is a delicate matter (as explained here). And as is true for some national taxation competences, Member States consider regulating pensions (because of the social character of some pension funds) as an exclusive national competence. Of course, social law is – like some taxation – barely regulated at the EU level. But here we see an interesting parallel.
If a member could continue to accrue pension rights in his home country (where the pension fund is located) while working in another Member State, and a different and more favourable regime applies for domestic workers compared to cross-border workers, then that would be contrary to the exercise of the Article 45 TFEU free movement of workers provisions. We already addressed this in 2011 (!).
Similarly, as pension funds are viewed as a provider of services (Commission v Spain, C-678/11, at paragraph 37), a restriction on that pension fund providing those services could be contrary to Article 56 TFEU, even when the underlying IORP II Directive ostensibly authorises such a restriction.
This brings us on to the cross-border activities and cross-border transfer provisions in Articles 11 and 12 of the IORP II Directive.
As set out here, these provisions of the IORP II Directive could arguably be contrary to those TFEU freedoms. The judgment in C-168/20 might be another Court of Justice authority to add support to an argument to declare Articles 11 and 12 of the Directive null and void, at least insofar as the restrictions are greater than those that can be objectively justified.
It is established case law that incompatible parts of a Directive can be declared invalid (see for example Digital Rights Ireland (C-293/12) and Seitlinger and Others (C-594/12). After all, particular Articles of an EU Directive should not contradict the overall spirit of the Directive itself, including its goals and its legal basis. Furthermore, they must not infringe the general principles of the TFEU as clarified and applied by the Court of Justice’s case law.
At one level this case can be viewed as an unsurprising result. But in terms of its wider ramifications, it could also be viewed as a further warning sign of the challenges yet to come on restrictions on cross-border pension provision: ‘In other words, although, for tax purposes, a requirement for the approval of a pension arrangement may be justified in order to limit and monitor the tax advantages attaching thereto, such a rationale may be absent if such a requirement is imposed specifically for insolvency purposes [or other?] purposes’ (C-168/20 at paragraph 120, with our extrapolation).
Hans van Meerten is Professor of European Pensions Law at Utrecht University.
Philip Bennett is Visiting Professor of Pensions Law at Durham University.