By David Geral Thursday, April 17, 2008

Corporate disposals and unbundlings do not pose significant legal difficulties where the medical schemes providing the services to the companies involved are open, public schemes. When one of the schemes is a private scheme whose membership is defined as the employees within that particular group, legal difficulties can arise. 

Where a company disposes of a subsidiary or division whose employees are members of an “in-house” medical scheme, the practice is usually that the “withdrawing employer” transfers its employees, and often also former employees who are pensioners on the scheme, to a new scheme. However, if the rules of the scheme do not provide that membership terminates in the event of a change in the ownership of the employer, then members, whether in-service or retired cannot simply be forced to exit the scheme because they cease to have a relationship with the group. In respect of the active members their employer would be obliged under the Labour Relations Act (“LRA”) to consult with them regarding a proposed change in their benefits. On the other hand the pensioners would have accrued the right to remain on the group scheme unless their contracts with their former employer or the group scheme’s rules had provided that they could be forced off the scheme in those circumstances. 

The worst result for the group scheme arises when the withdrawing employer transfers the active members but is unable or unwilling to transfer the pensioners of the scheme. This results in the reduction of the pool of active employees, whose contributions usually exceed their claims, while the proportion of pensioners, whose claims generally exceed their contributions, increases. This has a negative impact on the financial viability of the scheme. For this reason the Registrar of Medical Schemes usually requires the transfer of pensioners of a group scheme. However, it is not within the power of the Registrar to compel a withdrawing employer to do so. It also not within the power of the Registrar to intervene in the commercial transaction between the group employer and the withdrawing employer, resulting in a regulatory and commercial conundrum.

Withdrawing employers, and occasionally their transferring employees are more frequently demanding, perhaps in the wake of developments in relation to pension fund surpluses, the transfer of a portion of “excess reserves” held by the group scheme. The Medical Schemes Act (“MSA”) contains no express legal mechanism by which withdrawing members could gain access to any portion of those excess reserves. On the contrary, the MSA and its regulations prohibit the disposal of assets of a medical scheme except in limited, listed circumstances, one of them being the liquidation of the scheme.

In terms of the MSA no transaction involving the transfer of any business from a medical scheme to any other person (including another medical scheme) can be of any force unless the Registrar is satisfied that the proposed transaction would not be detrimental to the interests of the members of the schemes involved, would not render either scheme unable to comply with the MSA and would not leave either scheme in a financially unsound condition. This suggests that if the unavoidable outcome of a proposed transaction between two employers would be that members of the group scheme would need to transfer to a new scheme in circumstances in which the new scheme would commence on a financially unsound footing, then theoretically the Registrar, the transferring members, the new scheme or its members could object to the transfer taking place unless a portion of any excess reserves of the group scheme were paid over to the new scheme. However, there are no other circumstances in which any of those parties could object to the group scheme’s retaining all of its “excess reserves”.

The question then becomes whether the group scheme could transfer a portion of its assets to the members’ new scheme voluntarily. Since the Registrar’s discretion to object to a proposed transaction appears to be limited to questions of financial soundness, continuing legal compliance and the common interests of members of both schemes, he would not appear to be in a position to object to a voluntary transfer of assets in those circumstances. The degree to which one scheme is prepared to relinquish any portion of its assets which appear to be surplus in relation to its liabilities will be determined entirely by the relative negotiating strength of the two schemes. However, the board of the disposing scheme would need to remain mindful of its strong legal position (to refuse to dispose of any of its assets in such circumstances) and should not waive the rights of its members, or compromise their interests, lightly.

The MSA permits medical schemes to make donations to “any hospital, clinic, nursing home, maternity home, infirmary or home for aged persons in the interests of all or some of its beneficiaries”. It seems that Parliament is not averse to a medical scheme making donations to organisations whose business in some way complements the objectives of the scheme where there is some relationship between the organisations and the beneficiaries of the scheme. If so, there should, in principle, be no objection to permitting the transfer of a portion of the assets of the scheme to another scheme in circumstances where corporate activity within a group of companies results in a subsidiary or division within that group ceasing to be a member of that group. In that case the proposed disposal is neither expressly prohibited nor in conflict with the spirit of the MSA.

Since the Registrar does not have jurisdiction over transactions between the seller group and the withdrawing employer, the issue of financial soundness and equity is frequently addressed in practice by the payment of the actuarial value of the projected adverse impact on the group scheme from the withdrawing employer to the seller or the scheme. The concern is that medical schemes are seldom party to such negotiations or are only privy to them at a very late stage of the transaction. They are then obliged to deal with each corporate event on an ad hoc basis. The Registrar has previously expressed reluctance to accept proposed rule amendments to deal with such circumstances on the basis that his office is not in a position to regulate commercial transactions between parties who are not medical schemes or the relationship between employers who participate in medical schemes and their employees. Nevertheless, it may be advisable for boards of group medical schemes to consider the position of their schemes and their vulnerability to the effect of corporate restructuring transactions and to consider suitable rule amendments to place the boards in the best position to protect the interests of their existing members, including the members who will transfer to other schemes as well as the members who will remain behind.