As employers reduce their pension pots, the government is proposing an overhaul of the system.

Lucy Hickman talks to specialist lawyers about the funding processes on offer

Pension lawyers in the UK are reeling at present with the raft of imminent changes set to revolutionise their practice area.

With radical proposals for reform to pension caps emerging from the Inland Revenue, a Green Paper from the Department for Work and Pensions (DWP) set to lead to a new Pensions Act and a complete overhaul planed of the industry's regulatory system, as well as both European case law and directives throwing a spanner in the works, it is little wonder that the number of UK pension lawyers has increased.

David Pollard, a pensions specialist with City firm Freshfields Bruckhaus Deringer and immediate past president of the Association of Pensions Lawyers (APL), says: 'APL's membership has increased to 900 members, from 750 in 1999.

Pensions funds are big organisations with a lot of money in them that require a lot of regulation.

There is increasing regulation coming from the government as well as an almost constant stream of new measures coming from the DWP, the Inland Revenue as well as initiatives from Europe.

All this generates work for lawyers because they need to advise on the changes.'

David Griffiths, a partner at City firm Addleshaw Goddard, says the market for pensions lawyers is buoyant but experienced lawyers are in demand.

'There is a lot of growth for experienced lawyers, but the decline in mergers and acquisitions has hit pensions departments, so there is less work which would usually be picked up by junior lawyers seeking to develop.'

Katherine Dandy, a partner with London niche pensions firm Sacker & Partners, says many of the changes taking place in the pensions field are driven by a fall in the equity markets for the third consecutive year.

The fact people are living longer is also adding to the funding problems of pension schemes.

Ms Dandy says: 'The pensions market is so different to that of the 1980s and 1990s, when pensions schemes had problems with a surplus of funds and what to do with them to ensure they retained tax-exempt status.

It's very different now when the main client worry is deficits in funding of a scheme.

Employers are looking all the time to save money on pension funds, while trustees are working hard to make sure schemes are well funded.

'Investment in pension funds is a huge business.

Now many pension funds have more capital value than the employer that sponsors them.

The fund could be worth billions while the company could only be worth millions.'

Recent years have seen a big move by employers away from defined benefits or final salary schemes - where the employer guarantees a certain final amount to employees - towards money-purchase schemes.

With these schemes, the employee bears the risk because the employer and employee may both agree to contribute a set percentage but it is up to the employee how it is invested, and he or she will be entitled to only what is in the pot at the end.

Ms Dandy adds: 'Some companies have been threatened with industrial action because employees realise what a big perk these final salary pensions are.

There tends to be negotiation and sometimes the employer will come back with a hybrid to lessen the impact.'

One of the main drivers of all this new work for pensions lawyers was publication by the government in June this year of its action plan for radical reform of pensions legislation.

The Green Paper - 'Simplicity, security and choice: working and saving for retirement' - introduced two immediate changes to plug glaring loopholes in the system.

These new measures required solvent employers of schemes, which started to wind up on or after 11 June 2003, to fund members' benefits to a full 'buy-out' cost.

Ms Dandy says: 'The legislation has not been finalised so the pensions industry is in a strange hiatus at the moment.

The government says schemes have to be funded on this basis but there is no supporting legislation.'

The priority order on winding up was also amended with immediate effect to ensure assets are shared more fairly between pensioners and those who have not retired, and between long-standing and newer members.

Mr Pollard says: 'The government has always been very fixed on saying that pensioners must come first.

I suppose there is an argument that they would find it harder to find jobs to make up for the loss of pensions.'

However, he points out that someone who is very close to retirement may only be entitled to 10%, which is a big drop.

'I suppose it would be fairer to share it out more equally.'

Another measure, one of several which will not be implemented until spring 2005 at the earliest, is the introduction of a pension protection fund to guarantee member benefits up to set levels (up to 100% for pensioners and 90% for others, based on a capped salary level) if a scheme's employer becomes insolvent.

Employers that operate defined benefit schemes will bear the cost of this.

Mr Pollard says: 'Effectively, solvent companies will have to pay for those which are insolvent.

It will provide a degree of protection for funds.

It is a big issue though for ASW employees, for example, that this protection won't be backdated.'

ASW - Allied Steel & Wire - ran a steel plant in Cardiff before it went into receivership, taking the jobs and most of the pensions of around 800 staff in June.

Under current laws, if a firm goes into receivership, workers have to wait behind other creditors before finding out whether they will receive a pension.

Other planned measures include: compulsory indexation of pensions in payment to price inflation; giving members who leave schemes with between three months' and two years' membership, the choice of taking a refund of contributions or a cash equivalent out of their scheme; requiring employers to consult before making changes to pension schemes; increasing the earliest age at which benefits can be taken from an approved scheme to 55 (from 50) by 2010; amending section 67 of the Pensions Act 1995 to allow changes to schemes that would affect members' accrued rights; and requiring trustees to familiarise themselves with all issues relevant to their responsibilities.

The DWP Green Paper is possibly overshadowed by a genuinely radical paper from the Inland Revenue - 'Simplifying the taxation of pensions: increasing choice and flexibility for all' - which from April 2005 will effectively abolish revenue limits as they now stand.

It means there will be one new tax regime for pensions.

Individuals will be allowed to pay all of their earnings into a pension if they want to.

There will be an annual limit of 200,000 on 'inflows of value to an individual's pension fund' and a lifetime limit of 1.4 million on the 'amount of pension saving' that can attract tax relief - a figure based on the existing earnings cap for higher earners, although some argue that this is too low.

Full concurrency will also be allowed, with individuals able to belong to any combination of schemes they wish provided the contribution limit is not breached.

The complicated monitoring of benefit limits will be scrapped.

Williams Burrows, the owner of WBA Ltd, which provides consultancy services to annuity providers, says that the best index-linked annuity rate now obtainable for a 60-year-old man with a two-thirds spouse's pension is just under 3.8 %.

This would require a lump sum of more than 1.7 million to buy an annuity, matching the maximum pension income allowed under the current earnings cap.

Mr Pollard says: 'One could argue "why have a cap at all?" It's not that much of a tax break.'

The government intends to introduce a 'recovery charge', which means any balance in excess of 1.4 million will be taxed at about 60%.

Another Revenue announcement is scheduled before Christmas, which should clarify the proposals.

Jonathan Fenn, a partner in the pensions department of City firm Slaughter and May, says: 'The changes in the tax regime are quite significant for a lot of people making decisions about pensions.

It will affect what a lot of top executives can do.

It will really only be higher earners who will be affected by it, not people who are on average earnings, although it depends on how it is indexed.

If it is indexed in line with price inflation rather than growth in earnings, more people will be affected.

'It will be a good thing from a lawyer's point of view because it will simplify the way in which schemes are set up.

One of the most complicated things about drafting is defining the right limits built into a scheme.'

The legislation will also have a side effect that could require lawyers to change their own partnership agreements.

Maximum contribution levels are between 17.5% and 40%, depending on age.

But the proposals are likely to increase the limit to 100%, with a 200,000 cap on the amount that can be invested tax-free.

Any partnership agreements that oblige partners to contribute at the maximum level will need to be rewritten.

Mr Pollard says: 'If partners have a clause in their partnership agreement that they must pay the maximum into a pension fund, then they will clearly need to reconsider this arrangement.'

As ever, Europe has kept pension lawyers busy of late.

One potentially large blot on the landscape is the Age Discrimination Directive, scheduled to be implemented into domestic law by 2006.

Mr Pollard says: 'People tend to think that it will act for the benefit of older people, but it works both ways, which is an interesting experiment on the part of the EU.'

In Beckmann v Dynamco Whicheloe Macfarlane Ltd [2002] IRLR 578, the European Court of Justice ruled that early retirement pensions, transferred under the Transfer of Undertakings (Protection of Employment) Regulations 1978, were a contractual redundancy benefit rather than an old-age benefit.

The right to an early retirement pension on redundancy therefore transfers to the new company and is enforceable against the new company.

This was an important judgment but some employers are still trying to find ways around it.

Transferred employees cannot waive these rights and the new employer cannot offer benefits on a less favourable basis where change to employment terms and conditions are related to the transfer.

With all these reforms afoot and case law chasing their tails, it is not surprising that Mr Pollard says: 'The work of pension lawyers is more high profile.

It is socially credible to admit you are a pensions lawyer.'

Lucy Hickman is a freelance journalist