Trustees of underfunded pension schemes cannot actively exploit the Pension Protection Fund (PPF) to boost workers’ retirement benefits, the High Court said yesterday.

In a landmark case, Mr Justice Henderson threw out what he called a blatant attempt to “game” the PPF’s safety net for the benefit of a small group of pensioners.

The PPF was established in 2005 to insure the pensions of employees of companies that went bankrupt with deficits in their pension funds. When a company collapses, the remaining assets in its pension scheme are transferred to the PPF, which then covers the shortfall from its own funds.

Yesterday’s case centred on a group of former employees of Ilford Imaging, a photographic business that collapsed in 2004 with a £45 million pension deficit. Under the PPF, many of Ilford’s former staff would still receive the majority of their pensions. However, because the amount the PPF will pay is capped at about £28,000 per person a year, a small group of workers expecting pensions significantly above that level faced losing as much as half of their pensions.

In the hope of securing full benefits for all pensioners, the trustees proposed that, before entering the PPF and transferring the schemes’ remaining assets, some of those assets be used to buy annuities. These would cover the shortfall between the PPF’s £28,000 maximum and what the higher earners were expecting.

For instance, a former Ilford employee expecting a £40,000 annual pension would be bought an annuity paying £12,000 a year. The remaining assets would then be transferred to the PPF, which would pay £28,000 a year, ensuring that the worker does not lose out. However, after buying annuities, there would be an even greater shortfall in the Ilford pension fund, putting the PPF under greater strain because it has to pay the same compensation with a much smaller contribution.

The PPF, funded by levies from active pension schemes, objected to the proposal, saying that all remaining assets in the Ilford scheme should be surrendered immediately.

Mr Justice Henderson agreed, blocking the Ilford trustees’ plan and branding it a “blatant attempt” to take advantage of the PPF at the expense of the healthy pension schemes that fund it. He said that allowing the proposal would expose the pensions lifeboat to “a wide variety of attempts to game the system in a way Parliament could never have intended”.

The judge said: “I have little doubt that, if the present proposal were approved, numerous and ever more ingenious attempts to take advantage of the PPF would soon follow [putting the fund] under increasing and possibly fatal pressure.”

The PPF, run by Alan Rubenstein, a former Lehman Brothers banker, said that it welcomed the decision, which “fully endorses our view that the trustee’s proposal was contrary to the pension protection system put in place by Parliament”.

Russell Agus, a principal at Hewitt Associates, the actuaries, called the ruling a sensible decision to protect the PPF, which he said was not set up on the basis that people would seek loopholes to strengthen individual pension schemes at the expense of those who paid levies to fund it.

The PPF, which has its own deficit of £1.2 billion, is expected to come under increasing pressure as more companies go bankrupt and leave underfunded pension schemes.

The pensions regulator said that the decision “vindicates the regulator’s attempts to protect the PPF against gaming and will help it to remain a viable, affordable safety net for other members in the future”.

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