No end in sight to this surplus “stripping” saga

"The Ghavalas option was designed to appropriate the surplus of a fund under the cloak of an outwardly lawful transfer of business from one pension fund to another,” observed Jan d’Oliveira SC, in recent litigation. In the mid-to-late 1990s Ghavalas – helped by others – used the stratagem to release the surplus assets of a number of Defined Benefit (DB) pension funds (see table).

There are some technical points worth noting. First – a DB fund is the only pension fund to which a surplus can accrue. Second – a surplus is the capital remaining in the fund after the payment of all member benefits. And finally – eloquently explained in the Today’s Trustee (TT) article titled The Multi-sided Saga of Surplus Stripping – "surplus stripping [could be seen as] a victimless crime.”

What? Every mainstream article on this topic holds that the fund members were robbed blind. Were they? TT observes: "If members of a DB fund receive the defined benefits that the employer has promised, being a percentage of final salary for which the employer is responsible, any surplus apportioned to them is a windfall!”

Had the surpluses remained in the respective funds there is no guarantee the members would have benefited. At the time there was no legal guidance on how such surpluses should be handled. And the "improper utilisation” rules introduced in surplus-apportionment legislation in 2001 allow for the employer and employee to share in fund surpluses, without specifying how much each party would be entitled to. One can understand why an employer, who contributes a monthly amount to the DB fund on behalf of employees, might feel entitled to some (if not all) of the excess.

Here’s how the surplus stripping played out. Members of the targeted funds were transferred to other funds to isolate them from the surplus. The targeted fund then applied to the FSB for a Section 14 Transfer to amalgamate with the Lifecare Pension Fund. But no amalgamation took place, only the surplus was "transferred”.

We say "transferred” because the surplus never made it to Lifecare. Instead the money, less commission and fees of around 30%, flowed back to the employer of the affected fund, where it was shared by other parties. The commission was channelled to Ghavalas and his company, Soundprops 178.

In 2006 the Financial Services Board (FSB) identified five individuals and two companies that would face criminal charges for their alleged pension stripping transgressions. The list included Peter Ghavalas (the scheme mastermind), Aubrey Wynne-Jones, Anthony Dixon-Seager, Peter Martin, Neil van Hees, Soundprops 178 and Wynne-Jones & Company EB Consultants. Criminal proceedings were instituted against Simon Nash and his company Midmacor Industries (Pty) Ltd – also for surplus stripping – during October 2010.

We won’t go into detail on each of their involvement in the saga. Martin was employed by Alexander Forbes and Van Hees was marketing director of an asset management company associated with the group. Wynne-Jones was an employee benefits consultant to some of the funds in question.

A number of these "names” have since been brought to book… Following his arrest in August 2005 Ghavalas entered into a plea bargain with the National Prosecuting Authority (NPA) in terms of which he received a 15-year suspended sentence. He also agreed to pay a R6 million fine to the FSB and return R18.6m to the affected funds. (The plea bargain was entered into on 16 February 2009.)

Other settlements include the Baileys of Mitchell Cotts (R20 million), Jan Pickard Jr of Picbel (R31 million), the former Lifecare company (R60 million), and the Lifecare Pension Fund (R26.2 million). In most cases the plea agreements offered indemnity from further prosecution.

In August 2009 the FSB launched seven court applications to review and set aside the Section 14 approvals previously granted. The most recent action took place in September 2011 when the FSB tried to quash the certificates on the unopposed Court roll. But Nash and Wynne-Jones opposed the motion and the Judge ruled that it had to be argued on the opposed roll in March 2012. At the time of going to press these certificates remain ‘in force’.

Some argue that Ghavalas completed the "stripping” exercise legally – which plunges us headlong into an ethics versus legality debate. The legal or not argument hinges on three observations. First – there was no surplus-stripping legislation when the "fraud” took place. Second – the 2007 amendment to make the 2001 surplus-apportionment legislation retrospective to 1980 may not stand up to a constitutional challenge. And third – the transfers were enacted as "transfer of business in terms of Section 14 of the Pension Funds Act” and approved by the regulator.

The ethics debate is far simpler. Ghavalas would surely not have entered into a plea bargain if he believed his actions were just and fair. Or perhaps his settlement was a matter of convenience rather than conscience? Ghavalas has since settled in Australia with the entire nasty matter behind him. Had he "stayed to fight” the prosecution he would still be in South Africa where some of his co-accused are currently embroiled in court battles.

Heavy hitters in the pension funds industry were also drawn into the pension stripping fray. Alexander Forbes hit the headlines after the FSB-appointed curator, Tony Mostert & Associates, instituted a R1 billion civil claim against the firm. The FSB Annual Report 2011 observes: "Alexander Forbes pleaded guilty to contraventions of the Financial Institutions (Investment of Funds) Act 1984.”

In terms of the plea agreement the company paid back R342 million as well as an additional amount of R5.4m and a small fine. Another pension fund administrator, Sanlam, was hit with a R700 million civil claim. The group settled with an amount of R340 million.

Where do things stand today? According to the FSB the surpluses will soon be paid over to fund members. When the regulators calculated initial fund surpluses (some seven years ago) they showed R231.278 million across the funds. Since then, thanks to recoveries and investment returns, the balance for distribution has grown to around R738.147 million (net of fees). According to Jurgen Boyd, Deputy Executive Officer: Retirement Funds at the FSB, "curator and liquidator remuneration and legal costs have to date [31 October 2011] amounted to R188.4 million and R45.5 million respectively!”

There are still two criminal actions playing out in our courts. Wynne-Jones is up on two counts of fraud and contravention of the Financial Services Act and the Prevention of Organised Crime Act. Simon Nash, Cadac executive Chairman, is facing charges of fraud, theft, conspiracy and money laundering for his role in defrauding the Sable and Power Pack Pension Funds.

Nash and Wynn-Jones have retained the services of Lance Rothschild to handle their public relations. And Rothschild doesn’t miss an opportunity to proclaim their innocence. Among the many gems from his recent correspondence is that "the Section 14 Approvals legalised the Ghavalas-style transactions concluded in the 1990s.”

It seems the prosecution’s case against Wynn-Jones’ is in tatters because they need Ghavalas to testify or provide an affidavit. If they fail to produce this testimony by 12 February 2012 the case will be struck from the role.

What do we make of all this? A quote from an epic poem by Scottish writer, Walter Scott, sums things up rather nicely: "Oh, what a tangled web we weave; when first we practise to deceive.” The perpetrators of the stripping scheme, the regulator, the media and the curators have all got a lot to answer for.