More Overselling of Pensions?

Submitted by Leo Kolivakis, publisher of Pension Pulse.

The Honourable Jim Flaherty, Canada's Minister of Finance, released a reform plan for the federal private pension legislative and regulatory framework on Tuesday:

"Our
Government has listened carefully to Canadians," said Minister
Flaherty. "We understand the value of secure and sustainable pension
plans. We are proposing a balanced package of measures for the benefit
of pension plan sponsors, plan members and retirees."

Today’s
announcement comes out of extensive consultations with Canadians,
beginning with the January release of a discussion paper, Strengthening
the Legislative and Regulatory Framework for Private Pension Plans
Subject to the Pension Benefits Standards Act, 1985, and including online consultations.

In
March and April, Ted Menzies, Parliamentary Secretary to the Minister
of Finance, chaired a series of national public and private
consultation meetings across Canada to hear the views of Canadians on
strengthening the framework.

The package includes measures to:

• Enhance protections for plan members.
• Reduce funding volatility for defined benefit plans.
• Make it easier for participants to negotiate changes to their pension arrangements.
• Improve the framework for defined contribution plans and for negotiated contribution plans.
• Modernize the rules for investments made by pension funds.

"These
reforms will provide enhanced benefit security for workers and retirees
while allowing pension plan sponsors to better manage their funding
obligations as part of their overall business operations," said
Minister Flaherty.

In particular, the Government plans to
restrict an employer’s ability to take a contribution holiday unless a
5-per-cent funding cushion remains, change the solvency funding
methodology to make it less volatile and less pro-cyclical by basing
the funding requirements on a three-year average, and require employers
to fully fund pension benefits on plan termination.

In addition, the Government intends to increase the pension surplus threshold under the Income Tax Act, which applies to both federally and provincially regulated defined benefit plans, to 25 per cent from 10 per cent.

The
proposed changes are aimed at federally regulated private pension
plans, which represent about 7 per cent of pension plans in Canada.

While
some of the proposed changes can be introduced by changes to
regulation, others will be implemented by legislation, which is
expected to be introduced in Parliament.

Protecting seniors is a
priority for the Government. In addition to these pension framework
modernizations, the Government has taken action by:

• Introducing
  legislation to implement the results of the Canada Pension Plan (CPP)
  Triennial Review, concluded at the May 2009
  Federal/Provincial/Territorial Finance Ministers’ Meeting, which
  includes a number of measures that will improve the effectiveness and
  resilience of the CPP while ensuring it remains affordable and fair for
  future generations.
• Leading a Federal/Provincial/Territorial
  Research Working Group on Retirement Income Adequacy, which will report
  to Ministers of Finance and Ministers Responsible for Pensions in
  December to ensure that all Canadian governments have a common
  understanding of the strengths and challenges facing the retirement
  income system in Canada.

This builds on our Government’s
four-year record on seniors’ issues, which provides $1.9 billion
annually in tax relief to seniors and pensioners, including:

• Increasing the Age Credit amount by $1,000 as of 2009, on top of the $1,000 increase introduced as of 2006.
• Increasing the age limit for maturing pensions and Registered Retirement Savings Plans to 71 from 69 as of 2007.
• Introducing pension income splitting as of 2007.
• Doubling the amount of income eligible for the Pension Income Credit (to $2,000 from $1,000) as of 2006.

In
addition, the new Tax-Free Savings Account will provide additional
tax-efficient savings opportunities for all Canadians, including
seniors.

Soon after the press release, the
media started commenting on the proposed reforms. Jonathan Chevreau of
the National Post reports that Ottawa's pension reform has five main objectives:

1.) ENHANCED PROTECTIONS FOR PLAN MEMBERS

i. Plan sponsors will be required to fully fund pension benefits on
plan termination. Any solvency deficit that exists at the time of
termination will be required to be amortized in equal payments over no
more than five years. The obligations of the employer determined
following the termination will be considered unsecured debt of the
company.

This would eliminate the possibility that a pension plan could
be voluntarily terminated when assets are not sufficient to pay full
promised benefits.

ii. Employer contribution holidays will only
be permitted if the pension plan is more than fully funded by a
solvency margin, which will be set at a level of 5% of solvency
liabilities. The practice of taking contribution holidays was
widespread in the past and has been a contributing factor towards the
underfunding of pension plans during the past several years.

iii. Sponsor declared partial terminations will be eliminated from the Act.

iv.
There will be immediate vesting of benefits. Under the current
framework, there is a two-year maximum period before accrued benefits
are vested. It is proposed that vesting be made immediate upon
membership in a plan.

2. REDUCE FUNDING VOLATILITY FOR DEFINED BENEFIT PLAN SPONSORS

i.
Introduce a new standard for establishing minimum funding requirements
on a solvency basis that will use average - rather than current -
solvency ratios to determine minimum funding requirements. The average
solvency position of the plan for funding purposes will be defined as
the average of solvency ratios over the current and previous two years.
This will be based on the market value of plan assets. The amortization
period for solvency deficiencies will remain at five years. The going
concern methodology and its 15 year amortization period will remain
unchanged. Annual valuations will be required to support the new
solvency funding standard.

ii. Sponsors will be permitted to
use properly structured letters of credit to satisfy solvency payments
up to a limit of 15% of plan assets.

iii. The 10% pension surplus threshold in the Income Tax Act will be increased to 25%. The Income Tax Act allows employers to make
whatever contributions are necessary to ensure that pension benefits
promised under a defined benefit Registered Pension Plan are fully
funded on an actuarially determined basis. However, if plans have
surplus funds over a specified threshold, employer contributions must
be suspended. The new threshold will apply for 2010 and subsequent
years.

3. RESOLUTION OF PLAN-SPECIFIC PROBLEMS

A
workout scheme for distressed pension plans will be established to help
facilitate the resolution of plan-specific problems that arise in some
circumstances when a particular plan sponsor cannot meet near term
funding requirements. The scheme will permit sponsors, plan members and
retirees of a distressed pension plan to negotiate funding arrangements
that are not in conformity with the regulations to facilitate a plan
restructuring. It will respond to situations where the existing
framework imposes funding requirements that cannot be reasonably met,
and as such, may actually be detrimental to benefit security.

4. FRAMEWORK FOR DEFINED CONTRIBUTION AND NEGOTIATED CONTRIBUTION DEFINED BENEFIT PLANS

i.
Provisions of the Act and the Regulations will be revised to provide
clarity on the responsibilities and accountabilities of the parties
involved with defined contribution plans. Plan sponsors and members
will benefit from a framework for defined contribution plans that will:

• Provide explicit guidance on the responsibilities and
accountabilities applicable to employers, members, administrators and
investment providers with respect to defined contribution plans. The
framework will consider the Capital Asset Plan (CAP) Guidelines
released by the Canadian Association of Pension Supervisory Authorities
to provide best practices on these roles.

• Eliminate the requirement for a Statement of Investment Policy and Procedures for a CAP defined contribution plan.

•Measures specifically pertaining to defined contribution arrangements
will be clearly articulated in the Act and Regulations.

ii.
Pension plans will have the option to permit members to receive Life
Income Fund (LIF) payments directly from a defined contribution pension
fund. Permitting the payment of LIF-style retirement benefits directly
from the defined contribution plan account balance allows members to
continue to have their pension savings managed by the plan, instead of
having to assume greater personal responsibility for the management of
the funds by transferring them to a LIF account at a financial
institution.

5) MODERNIZATION OF PENSION FUND INVESTMENT RULES

The
present pension fund investment framework, which imposes a prudent
person standard supplemented with quantitative investment limits, will
be modernized as follows:

• Remove the quantitative limits in respect of resource and real property investments.
•
Amend the 10% concentration limit to limit pension funds to investing a
maximum of 10% of the market value of assets of the pension fund
(rather than the book value) in any one entity. An exception to this
rule will exist for pooled investments over which the employer does not
exercise direct control, such as mutual fund investments.
• Prohibit
direct self investment (e.g., an employer would no longer be permitted
to invest any amount of its pension fund in its own debt or shares).

OTHER MEASURES

i. To reduce administrative burden for plan sponsors and permit the
orderly windup of plans upon termination, the benefits of members who
cannot be located will be permitted to be transferred to a central
repository.

ii. The Office of the Superintendent of Financial
Institutions will be given additional powers to intervene when there
are concerns about the work of a plan's actuary.

iii. A number
of other technical improvements to the Act and the Regulations will be
made to align the framework more explicitly with the way that it is
commonly interpreted and administered. These technical amendments are
as follows:

• Restrict annuity purchases for an ongoing plan if
the plan is underfunded to be consistent with the treatment of
transfers of lump sum benefits.
• Amend the definition of
termination to avoid catching situations where the plan is not
necessarily terminated, and clarify the timing and content of
information to plan beneficiaries following a termination.
• Eliminate pre-1987 references in the Act, which are largely out of date.
• Remove the requirement that pension plans report to the Superintendent on inflation adjustments made to the pension benefits.
•
Amend the definition of former member to ensure that plan members who
have transferred to a new plan do not have a say in future surplus
distributions in the older, original plan.
• Clarify that in
situations where the accrued benefits constitute small amounts, they
can be paid out as a lump sum at retirement.
• Require that payments owed to pension plans be remitted monthly rather than quarterly.

Terence Corcoran of the National post writes More overselling of pensions:

One
of the underlying problems of the Canadian pension plan system --
public and private -- has been the tendency of its promoters to
oversell products that could not be delivered. We have actuaries who
told us how pension funds could beat the stock market over the long
term, governments who took on public service pension risks without
telling taxpayers about the costs, and unions that loaded their private
sector employers with pension liabilities that could never be met.

And
now comes Finance Minister Jim Flaherty with a reform plan that, once
again, oversells what he is actually doing. "Our government has
listened to Canadians," he said Tuesday. "We understand the value of
secure and sustainable pension plans. We are proposing a balanced
package of measures for the benefit of pension plan sponsors, plan
members and retirees."

What Mr.
Flaherty delivered, instead, was a list of worthy fiddles with rules
and laws governing pensions that are subject to the federal benefits
standards act. That means only 7% of Canadian pension plans will be
affected by the proposed reforms. The fiddles, moreover, will do
nothing to relieve the shortfalls faced by that 7% should their
pensions be underwater or their employers in bankruptcy.

Spotting
this obvious gap in Mr. Flaherty's announcement, Liberal finance critic
John McCallum accurately charged the government with failing to bail
out the average Canadian pension plan that's struggling with a 20%
deficit. But then Mr. McCallum, playing the usual game, promised the
Liberals will soon deliver their national plan for pension reform. It
will include a new Canadian Pension Plan scheme, more tax incentives
and other proposals. The Liberals, in other words, will oversell
Canadians on another pension program that will not deliver.

Mr.
Flaherty's reforms, had they been in place, might have made the current
private pension problems less severe. Making it easier for plan
operators to add new money to pension plans when the plan is in surplus
acts as an incentive for more corporate contributions. But there are no
guarantees corporations would have made those extra contributions --
especially when they were being told by investment and actuarial
experts, time and time again, that the stock market would soon rise and
the pensions plan was safe.

None
of these short-term federal fixes, nor any of the political banter,
will matter much over the longer term. Pension law and economics are
broken, and the process of bringing about major reform will take
several years -- assuming all the players at the table can reach
agreement. Each province will have its own ideas, and a long list of
private players, including the insurance industry, will also want to
shape the outcome of any reform effort.

But even if some new
national approach is worked out, it is unlikely anybody is going to be
able to rescue the private-sector pension plans that so many companies
adopted as perks for their employees. The best hope is a recovery in
financial markets, which could over time reduce the deficits. Once
plans are in balance, it will be a lot easier to begin unwinding the
old plans and bring in new plans for new employees. That process is
already underway.

For pension plan members and individual
Canadians, the best approach is to approach all reforms and plans with
great skepticism. The tendency to oversell, to promise results and
benefits that can't be delivered, is especially powerful within
government.

You'll recall Mr. Corcoran reported on the model that's killing pension funds
back in February. His criticism of the pension reforms is spot
on. Even though the reforms are sensible, they're a day late and a
dollar short. More importantly, they do not address the looming pension
crisis that will grip Canada in the coming decade.

The pension
debate needs to reopened. It's not a Conservative, Liberal or New
Democratic issue, it's about doing what's best for hard working
Canadians. The reforms proposed today are simply not enough and will
leave far too many Canadians teetering on the edge of pension poverty.
Surely we can do better. We owe it to millions of Canadians that
through no fault of their own, have fallen victim to vagaries of the
market.

Comments

[Anonymous]

Does every blog on this site have to be insanely long? I love the "behind the scenes" perspectives not shown in the MSM but honestly... all the same stuff being said over and over. Keepem short and tot he point!

[Leo Kolivakis]

I am not here to "call out Harper" or any political party because they've all failed miserably when it comes to pensions. I have no political axe to grind. I am fully independent and have voted for all major parties in the last five elections (my last vote went Green and my next vote risks going to them again). By the way, read CARP's latest press release on why the reforms are not enough.

[Anonymous]

Here is an interesting paper (24 page PDF):
http://www.cdhowe.org/pdf/commentary_271.pdf

The case for trills: Giving Canadians and their pension funds a stake in the wealth of the nation.

40muleteam borax

[Anonymous]

This is a sick joke. The only thing Flaherty wants to protect is financial intermediaries, his real constituency. He bankrupted and/or demolished retirement plans of Canadian pensioneers when he arbitrarily changed income trust laws over one Haloween night. Figures for a ghoul. Then he decided to sell off natural resources, to places like Abu Dhabi and South Korea, where no Canadian can buy natural resources. Witness the latest stupidity with Harvest, a long lived income stream for all Canadians. Why, Canada does not have the capital or the know how to develop their own hydrocarbons? Now Canadians will be buying their own oil from Koreans, and paying them to refine it from their only major East Coast refinery. Utter stupidity. However I have not yet seen you calling out the Harper fiasco government on a principal issue. I do not know what your mission is at ZH or why you are even here, to be frank.

[Howard_Beale]

Excellent work as always, Leo. A bit off topic but not really--cover story on the Toronto star today: Smarten Up, Bankers Told. Apparently the Bank of Canada's Carney is trying to get tough.

Carney said "Banks and investment houses that are returning to profitability should remember that governments, including Canada's, had to dig deep to prop them up during the recession."

4 paragraphs later: In response to Carney's strong words, the Canadian Banker's Assoc. said "banks in this country have continued to offer credit during the recession and did not need government bailouts, as was the case in other nations."

So $15 billion a piece in a budget line item by Harper in October, not even voted upon, was apparently not needed.

Is there any evidence, Leo, that the banks have returned these funds? What does it take in Canada to get people outraged enough to demand the repayment of the dole when it apparently wasn't needed. Was it all to keep up capital ratios and never to be seen again? Or is the real truth what you said before --the banks just got lucky and that it never became a public issue since it was just tossed in the budget the land in the south stole all the bailout thunder. Please correct me where I am wrong in my thinking or offer any insights.

Thanks for all you do, Leo.

[Leo Kolivakis]

Howard,

The Bank of Canada has a site on business credit indicators:

http://credit.bank-banque-canada.ca/businesscredit

You'll notice that as of August, business credit from chartered banks was still negative, down 4.1% year-over-year (second chart; data is available). The Bank also produces quarterly survey on senior loan officers lending standards and business outlook:

http://www.bankofcanada.ca/en/slos/index.html

and

http://www.bankofcanada.ca/en/bos/index.html

Credit tightening is still prevalent but less widespread than in previous quarters.Canadian banks did not need bailouts but they certainly got hit by the global credit crisis, ABCP scandal and they did not lend during the recession. Banks are banks. They cut credit at the first sign of trouble and don't open up until a recovery is fully entrenched. In the meantime, they trade away in their capital market operations making a killing in trading profits. Casino capitalism at its best (or at its worst).

[Anonymous]

Most Canadians are as clueless as those in the US. There is little to no outrage because our real estate market hasn't changed much. We are complacent and we pat ourselves on the back for avoiding the financial meltdown relatively unscathed...so far. Few people are aware that the banks were given a handout for no reason at all. If anything it is perceived as a pre-emptive measure. Credit is not being curtailed from what I can detect. The recession here is still largely a stock market recession and most expect it to return to normal. Good luck with that.