Death in service benefits: doing the right thing

What is a death in service scheme?

Death in service schemes are a benefit offered by many employers, paying out a multiple of salary in respect of employees who die while in service. This doesn’t necessarily mean they have to be at work when they die, but rather that they are current employees.

Death in service: A valuable benefit

The provision of lump sum death in service benefits continues to be a popular choice for employers. It is easy to see why. Group life insurance cover is generally simple to establish. It can provide substantial benefits at a relatively modest cost. Employees attach a high value to the benefit. If the worst happens, it can provide financial help at a difficult time.

Different legal structures are available. The benefit may be integral to a pension scheme or provided separately. In almost every case, the arrangements are established under a trust and the trustees have a wide discretionary power to decide who will receive the lump sum benefit.

Ways to offer death in service benefits

In the past, death in service benefits were often part of the employer’s pension scheme. Employees had to be a member of the pension scheme to have death benefits paid in the event of their death. This is still common in the public sector and in longer-established areas of business and industry.

This setup can be useful for employers as the scheme trustees are responsible for paying out the benefits — the employer just pays for it.

More recently, however, death in service benefits have increasingly been dealt with separately. You can still set up a registered pension scheme that provides nothing but death benefits, usually called a registered group life scheme (RGLS). That is very common — pension scheme structures, regulation and taxation are familiar to most employers, trustees and advisers.

A few employers self-insure, promising a death in service benefit, but paying out benefits themselves directly as they arise. This means they don’t have to pay a regular insurance premium, but if they sadly experience a large number of deaths in a short period of time, it can be very expensive.

Or you can set up a separate ‘excepted group life scheme’ or EGLS. These are not classed as pension schemes, and are regulated as insurance products.

Does death in service benefit form part of the estate?

Death benefits payable under a discretionary trust have the advantage that they do not form part of the estate of the deceased employee and so are not subject to inheritance tax. But discretionary trusts present challenges too. The trustees have a legal duty to administer the scheme in compliance with a body of law that can be complicated and is continuing to evolve.

Who gets death in service payments?

Many death in service cases are straightforward for the scheme trustees and they are able to choose the beneficiary of the lump sum with relative ease. Some cases can be far more difficult, particularly where there are numerous potential beneficiaries, competing interests and difficult family circumstances.

Avoiding death in service payment challenges: the importance of process

Challenges, complaints and even legal action by disgruntled potential beneficiaries can arise. In view of the wide discretion conferred upon scheme trustees, the Pensions Ombudsman and the Courts will generally not overturn the trustees’ decision. However, they will critically review the trustees’ decision-making process and order them to repeat the process if it was flawed. That can give rise to real difficulties if the benefit has already been paid out, so it is essential for trustees to follow an appropriate process and to keep good written records.

The core legal principle is that if the trustees do the following things, their decision will not be susceptible to successful legal challenge:

1. Ask the right question. It is not correct to ask what the employee’s wishes were and to carry them out automatically.Nor is it correct merely to ask whether there are grounds to deviate from the wishes expressed by the employee. Instead, trustees should ask who the legitimate potential beneficiaries are and how should the benefit be distributed among them.
2. Have regard to and correctly apply the relevant law and the trust deed and rules of the scheme.
3. Take into account all relevant but no irrelevant factors.
4. Do not make a perverse decision (that is, one which no reasonable trustee could make).

Making the decision

But what do these decision-making requirements mean in practice? Here is a summary of the process that we recommend should be followed to exercise a discretionary power to pay lump sum death benefits:

1. Find out the amount of benefit that is payable.
2. Read your scheme trust deed and rules. That document will provide key information and inform the procedure that you should follow. In particular, check very carefully the class of potential beneficiaries to whom the benefit may be paid.
3. Identify (within reason) all the individuals (and organisations) that fall within the class of potential beneficiaries.
4. Consider the employee’s ‘expression of wish’ form, if there is one. Also consider any will left by the employee.
5. Investigate the circumstances and financial needs of the potential beneficiaries and any other relevant information.
6. Prepare a paper for the trustees summarising the details of the case, setting out the relevant factors to be taken into account and recommending a payment decision.
7. The trustees should consider all relevant information and make their decision.
8. Minute the trustees’ decision, showing that they followed an appropriate process.
9. Notify the beneficiary and other interested parties of the decision, giving reasons.
10. Arrange for the payment to be made. It is good practice to carry out some checks before making the payment, including to confirm the identity of the beneficiary and that the beneficiary is not bankrupt.

What could go wrong?

Reading the reports of complaints handled by the Pensions Ombudsman tells us that mistakes can (and have) been made by trustees at every step. Mistakes include:

• The decision is made by the wrong person. The decision must be made by the trustee (or someone to whom the trustee has validly delegated its power). Check the identity of the trustee. It is often the employer company but can be a group of individuals.
• Automatically following the employee’s expression of wish form. That is never the right thing to do. Sometimes, following the correct process will result in the same outcome. Sometimes, it will not.
• Failing to identify and consider all potential beneficiaries.
• Failing to take into account all relevant information.
• Failing to provide reasons for the decision. The Pensions Ombudsman regards this as maladministration.

How can we help?

At Weightmans, we have extensive experience of supporting employers and scheme trustees with the important process of deciding who will receive death in service lump sums. We can help as much or as little as you like. Some clients just ask us for advice on difficult issues that crop up.

At the other end of the support scale, we provide a full-service option which enables employers to outsource to us all the preparatory work that needs to be done. We cannot make the decision for the trustee but we can prepare the case, make a recommendation and support the trustee in reaching the final decision.

The full-service option is in higher demand now than ever before. Its benefits include not only reducing risk but also freeing up resources within your HR team and elsewhere within your organisation that would otherwise be required to deal with each case. Also, we bring to each case our experience and sensitivity in dealing with bereaved family members.

Other group life insurance services

We provide legal support on all other aspects of group life insurance too, including scheme establishment, amendment and termination. We review (and often amend) the standard documents supplied by insurance companies. We set up the trusts into which benefits for children and vulnerable adults should be paid. We can act as the trustee of those trusts and administer them.