In Chapters Two and Three I described how economic, labour market and other changes have influenced pension plan coverage. In this chapter I explore how these same developments have affected the rights, interests and expectations of sponsors, active plan members and retirees.
As noted in Chapter Three, the manufacturing sector has been transformed: employment levels have dropped considerably; job tenure has become shorter and less secure; plants have closed; and companies have been taken over, merged and reorganized, or gone out of business. These tendencies, evident for several decades, have been accelerating recently, especially in the domains of steel and auto production. As a result, pension plans — especially single-employer pension plans (SEPPs), closely tied to the fate of the sponsor company and especially prominent in those two domains — have experienced a series of dislocations. The service sector, though it has expanded considerably, has also experienced significant restructuring, as have the public and broader public sectors — notably in the late 1990s — as various elements were privatized, eliminated, amalgamated or transferred from one level of government to another. These changes in the service and public sectors have also produced discontinuities in the operation of many pension plans. Nor is transformation of the economy and of public administration likely to subside any time soon. Nor are the consequential challenges for pension plans.
Some parts of the pension community have developed structures to cope with these challenges. For example, the construction industry is characterized by considerable volatility: small- and medium-sized firms come and go; employment levels fluctuate in response to the seasonal and cyclical demand for labour; and the duration of a job for any given worker with any given firm tends to be measured in weeks or months, not years. Nonetheless, in this unpromising pension environment, an answer has been found: the multi-employer pension plan, or MEPP. Each unionized construction company pays into a central pension fund a fixed sum per hour worked by each employee. The fund trustees, often appointed by the union, manage all aspects of the plan, and employees can be assured of pension coverage no matter which employer they work for, or how briefly, or whether that employer is still in business — so long as they continue to work in the construction industry, or at least its unionized segment.
The solution is not perfect. In the case of a long-term decline in construction, large numbers of employers may go out of business or the unionized sector of the industry may shrink; this would confront the MEPP with a serious risk of under-funding and, ultimately, of wind-up. Nonetheless, the MEPP remains a relatively flexible vehicle for pension provision in a context where change is a constant. The hospital, school board, community college and municipal segments of the broader public sector, also dominated by MEPPs, have found somewhat different, but relatively satisfactory, ways to cope with the dynamics of change that do not put the fundamental structure of their pension plans, or the interests of their members, at risk.
Private sector SEPPs, by and large, have not. In the context of a rapidly changing economy, single employers with pension plans may close plants; combine, divest or shut down particular units or functions; merge with, acquire or be acquired by another business; or simply cease to exist. Each of these relatively common occurrences may expose SEPP sponsors to complicated, protracted and expensive proceedings, and their workers to less secure and generous pension outcomes. Thus, plant closures and other forms of retrenchment involving mass layoffs may trigger the partial wind-up of a SEPP and, under present law, claims for “grow-in” rights by some workers whose pension expectations have been adversely affected. Corporate mergers, acquisitions and re-organizations may require the split or merger of pension plans and the consequent transfer of their members, liabilities and assets — sometimes several times over. Employees who experience discontinuities in employment due to corporate restructuring and downsizing — as more and more do, more and more often — may leave behind them a trail of small, stranded pensions whose cumulative value is much less than the value of a single pension with one employer might have been if circumstances had permitted.
Not all aspects of restructuring are harmful. Changes in corporate structure or reconfiguration of corporate operations may signify successful adaptation to market conditions, enabling companies to survive and grow, with obvious benefits for their workers. The redeployment of workers from one job to another, by choice or necessity, may be good not only for the economy as a whole, but sometimes for the workers themselves, as they move from declining to more successful enterprises where their long-term job prospects are better. And on occasion, pensions can actually facilitate change, as they do when they are used to fund early retirement for redundant workers. However, the architecture of our pension system and the regime that regulates it sometimes not only fail to facilitate or accommodate change, but actually complicate or obstruct it. In a sense, this is not surprising. Defined benefit (DB) plans were intended to ensure that workers remain with their employer for the long term, not to make it easier for them to take jobs elsewhere; and workers who have been forced to find other work are not eager to oblige their former employer by relinquishing any part of their pension rights.
The issue confronting me, then, is how to ensure that all pension interests are appropriately protected in the event of a change in business ownership, structure or operations. This involves three different projects: enhancing the regulator’s capacity to deal with the pension consequences of corporate restructuring; improving pension outcomes for workers affected by restructuring; and resolving issues related to the design and funding of plans that are raised by various forms of restructuring. These issues are dealt with in succeeding sections of this chapter. A final issue — what happens when sponsors or plans fail? — is dealt with in Chapter Six.
5.2 Enhanced Institutional Capacity to Cope with Change
5.2.1 More efficient regulation for sponsors
Ideally, pension plans should not be a major consideration in corporate re-organization — or at least, the regulation of pension plans should be as neutral as possible in this respect. Parties to the transaction should be as free as possible to order their businesses and pension plans so long as they respect the rights and the interests of all stakeholders.
However, as we heard from various stakeholders, and as Lorne Sossin’s research study for the Commission confirmed, regulatory proceedings resulting from corporate restructuring are uncertain, complex and, above all, lengthy. Over the last five years the median times required by the Financial Services Commission of Ontario (FSCO) to complete processing of restructuring-related transactions were: 231 days for wind-ups, 481 days for partial wind-ups, 928 days for mergers and 1,165 days for asset transfers. Such delays are unacceptable. They interfere with corporate transactions necessary for the transformation of Ontario’s economy. They prejudice the interests of employers, active members and retirees. They consume FSCO’s resources and divert its energies from other regulatory tasks. And — given that it takes four times as long to merge plans, and five times as long to transfer assets as it does to wind them up — these delays provide corporate deal-makers with a plausible rationale for simply terminating plans altogether.
I am not sure whether these delays are caused by the intrinsic complexity of the law governing particular transactions, inappropriate statutory procedures, litigiousness or foot-dragging by the parties or administrative inefficiency. However, I am sure that something must be done rapidly to rectify the situation.
Recommendation 5-1 — The pension regulator should immediately investigate the causes of extreme delays in approving transactions, including splits, mergers, asset transfers and conversions, and provide a report that can be used to facilitate the processing of such transactions in accordance with the recommendations of this Commission.
Such a report will be an important complement to the recommendations in Chapter Seven, which are intended to streamline the regulator’s decision-making and appeals processes, and regularize the provision to stakeholders of advanced rulings and guidance bulletins.
5.2.2 More choices, better outcomes for workers
Portability remains a problem for workers with pension coverage who move to another job, whether by choice or necessity, and whether individually or in groups. Essentially, when they move they have three choices: to leave their pension stranded with their former employer until they reach retirement age; to try to persuade their new employer to allow them to use the assets from their original plan to “buy in” to the new employer’s plan; or to take the commuted value of their original pension in the form of a locked-in RRSP, which will become available to them upon retirement. In addition, if their previous plan has been partially or wholly wound up, their deferred pension entitlement must be annuitized. All four scenarios have serious disadvantages for employees who find themselves in this situation. The first would result in their pension being calculated on the basis of their truncated service with the original employer; the second depends on the existence of a pension plan in their new place of employment and on the willingness of their new employer to give them credit for past service; the third means that their funds are not likely to be actively managed as part of a large investment pool and will potentially grow more slowly over time than if they had remained in the original plan; and the fourth — like the third — cuts them off from sharing in future growth in the plan’s investments that may be used to fund ad hoc benefit improvements. These difficulties are compounded as employees are having to change jobs — even careers — more and more frequently during the course of their working lives, and they are most extreme in sectors undergoing rapid and fundamental restructuring, especially those where pensions are provided through SEPPs.
As I discuss in more detail below, a number of simple changes can generate options for employees in “exporting” and “importing” plans. However, one option exists outside the current system that I believe would be a very useful addition to the system’s architecture: the creation of a centralized pension agency to assist employees in consolidating past pension entitlements.
The idea is not a new one. In the early 1960s, the Ontario Committee on Portable Pensions recommended a number of reforms that have become part of our present system, including earlier vesting of pension rights and procedures governing the transfer of pensions. It also recommended the establishment of an agency “for the purposes, among others, of receiving, holding and disbursing pension benefits.” In effect, the employee would be able to deposit stranded pension funds with this agency, which would manage them actively and, in due course, disburse benefits to the employee upon his or her retirement. The Committee’s recommendation was, in fact, adopted in Ontario’s original Pension Benefits Act (PBA) of 1963 (never proclaimed in force) and survives in the current version of the PBA, which empowers the Lieutenant Governor in Council to “establish or designate” such an agency.
However, no such agency has in fact been established or designated. Had it been, a number of additional and attractive options would now be available to deal not only with the pension consequences of corporate restructuring, but with portability and many other issues as well.
Recommendation 5-2 — The Lieutenant Governor in Council should establish an Ontario Pension Agency to receive, pool, administer, invest and disburse stranded pensions in an efficient manner.
I explore the possible uses of the Ontario Pension Agency (OPA) later in this chapter and in Chapter Six. First, however, a word about its structure and general mandate. The OPA could be established as an arm’s-length Crown corporation, or operated under franchise by one or more private firms based in the pension industry or, indeed, through some form of public–private partnership — but there should be no long-term reliance on government funding. However organized, it should be able to sustain itself after an initial period by charging modest service fees to its “clients.” The OPA would provide pension beneficiaries and sponsors with the option of depositing the assets of stranded pension funds with the agency, which would, in turn, invest and actively manage them. Upon retirement, the beneficiary would receive not the pension originally contracted for, but an earnings-related target benefit pension, calculated in a fashion roughly comparable to that used by the Canada Pension Plan. Conceivably, though it is not an essential part of the scheme, beneficiaries might be able to augment their initial stranded pension by depositing additional sums with the OPA by way of contributions from either subsequent employers or themselves.
While a host of important aspects of its mandate, design and operation remain to be determined,
the OPA would:
- provide both the sponsors and recipients of stranded pensions with options not now available to them;
- ensure that beneficiaries can retain, augment and keep track of stranded pensions accumulated over their working lives;
- enable sponsors — with the consent of active plan members and retirees — to protect their pension entitlements without having to annuitize them following a wind-up or partial wind-up;
- relieve sponsors of the obligation to track former employees with deferred pensions;
- achieve economies of scale in administration and be able to pursue investment strategies not available to small plans or individuals; and
- relieve the plan administrator of some of the burdens now associated with plan wind-ups and partial wind-ups, including what to do with accruals for the benefit of former plan members who cannot be found.
These possibilities are explored in greater detail below.
5.3 The Effect of Restructuring on Active Members and Retirees
When a business downsizes or changes its corporate form through sale, split or merger, the interests of plan members are directly, and sometimes prejudicially, affected. Their jobs may end or change; their pensions may continue for future service in a different plan; or accruals may stop altogether. It is important that the pension system ensure fairness for both active and retired members in these circumstances, both vis-à-vis the plan sponsor and in relation to each other. This can be accomplished in one of three ways: by encouraging employers with plans to accept incoming members with previous pension credits; by facilitating the transfer of assets between plans; and by offering employees a third option — to consolidate their pension assets and entitlements under the OPA, described above.
5.3.2 Encouraging plan sponsors to accept incoming members
In a voluntary system in which employers have the right to establish a pension plan or not, to determine the type and terms of the plan if they do initiate one, and to discontinue the plan so long as accrued rights are protected, it is difficult to impose on employers the obligation to accept new members or to credit them with benefits earned during their employment with a previous employer.
On the other hand, pension law already imposes a number of minimum standards and positive obligations on employers who do choose to maintain plans. These are found in the provincial PBA itself, the common law, and the federal Pension Benefits Standards Act (PBSA) and Income Tax Act (ITA). Consequently, it does not seem inappropriate to ask employers at least to formulate a policy on the transfer of pension credits from prior employment and apply it to incoming employees transparently and even-handedly.
Recommendation 5-3 — Sponsors should be required to develop a standard policy for dealing with newly hired employees who seek pension credit for service during employment with a previous employer. The policy should state whether such credit will be given and, if so, on what terms, and should be made available to all such employees.
In Chapter Ten, I propose that a number of non-statutory initiatives should be undertaken by a new Pension Champion, with a view to persuading the pension community to resolve long-standing problems that detract from the smooth operation of the DB system. Portability is one such issue, and it ought to receive priority attention.
5.3.3 Facilitating asset transfers from one plan to another
In most situations where an individual moves from one pension plan to another as a result of corporate or governmental restructuring, it would be optimal for pension service accruing before and after such a transaction to be consolidated into the new plan, for the individual’s pension assets to be transferred from the old plan to the new, and for all ties with the previous employer to be severed. In many cases, this would serve the interests of both the employer and the individual. Such an arrangement is indeed possible where the “exporting” and “importing” plans — generally in the public sector — are parties to a reciprocal agreement under which an individual transferee is given the option to either remain in the former or transfer the aggregate value of his or her pension benefits to the latter. The value transferred buys a level of benefits, based on the cost of the benefits in the importing plan.
However, reciprocal agreements do not apply to group, as opposed to individual, transfers. Instead, group transfers are governed by provisions of the PBA that have been interpreted so as to allow service to be consolidated in the new plan only if it offers benefits that are identical to — or better than — those of the old. These requirements virtually foreclose the much more desirable approach of having the union that represents these workers negotiate the transfer arrangements on their behalf. True, the current provisions protect individual transferees who might otherwise make improvident choices and surrender particular benefits in their former plan (say, dependant benefits) that in the end would have been quite valuable to them. However, experience has shown that if aggregate value transfers are not allowed — if the requirement for exact matching between the two plans is maintained — asset transfers will seldom occur. As a result, significant groups of plan members are left with past service credits in one plan and new service credits in the other. This diminishes their pension benefits considerably.
Why individuals should receive more favourable treatment than groups is by no means clear. If — as many stakeholders propose — aggregate value transfers should be allowed for group transfers, despite some differences between the two plans, the rights and preferences of individual members can be protected by simply allowing them to opt out of the group transfer and remain in the old plan.
I believe that the present regulatory impediments to group transfers are inappropriate and should be changed.
Recommendation 5-4 — When individual or group transfers from one plan to another are contemplated, the importing plan should provide a detailed statement of the benefits to be provided. Each transferee should be given four options:
- as a default option, to accept the asset transfer and begin future accruals in the importing plan, provided it offers benefits of comparable aggregate value to those provided under the exporting plan;
- to remain as a deferred member of the exporting plan;
- to transfer the value of the first pension to the Ontario Pension Agency; or
- to transfer the value to a locked-in account.
If active plan members are represented by a union or similar organization, it may accept one option on behalf of all members, or allow each member to exercise one or more of the options provided.
The value of benefits provided by an “importing” plan should be deemed to be “comparable” to those provided by an “exporting” plan for purposes of the default option, if (a) approved by the Superintendent as approximating the aggregate collective value of such benefits, notwithstanding differences in the nature, value or terms of individual benefits, or (b) agreed to by a union representing active plan members affected by the transfer.
Some argue that the commuted value should always be used to measure the worth of transferred pension assets; others argue that doing so may price asset transfers too high or too low. In my view, the commuted value should normally be used unless a transfer agreement provides some other basis for measuring entitlements. However, I also note that since it is often in the new sponsor’s interest to seek to maintain the continuity of operations by preserving the existing workforce intact, sponsors may offer or unions may negotiate a more generous basis for asset transfers. That said, if there is no transfer agreement, commuted values are probably the appropriate way to address the claims of transferees — whether groups or individuals — given the need to also address the entitlements of the remaining members and retirees under the original plan. Finally, if recommendations in Chapter Four are accepted, and MEPPs, JSPPs and jointly governed target benefit pension plans (JGTBPPs) are funded on a going concern basis alone, it will be necessary to develop some other basis for valuing asset transfers.
Problems associated with asset transfers have given rise to significant controversies in the public and broader public sectors. During the late 1990s, the provincial government “divested,” or transferred, some 10,000 employees from one agency or level of government to another or to the private sector. Very few of these employees benefited from asset transfers. Indeed, some of them continued to do the same job in the same place, but were told that their future pension accruals would be in a different plan. These individuals will receive pension benefits that are lower than they would have been if all of their service credits and associated pension assets had been transferred to their new plan. Unfortunately, as noted, then- and still-prevailing rules preclude asset transfers if even relatively minor differences exist between the new and old plans.
The workers affected, their unions and many plan administrators involved in these divestments argued strongly for a change in the rules to allow asset transfers on an aggregate-value basis. Several administrators and sponsors, indeed, made submissions to the Commission to this effect, concerned that the affected workers were suffering hardship and unfairness. Now that many years have passed, and some of the workers affected have gone on to other jobs, retired or died, resolution of this issue has become more complicated and expensive. In some cases, the cost of giving active members full service credits in their new plans would exceed the value of past benefits. In others, the loss of service credits has been, in effect, offset by higher salaries in their new positions. In still others, plans have changed considerably from what they were at the time of the divestment or transfer.
Recommendation 5-4 addresses asset transfers on a going-forward basis, but is not meant to operate retroactively to dispose of claims by public sector workers who were adversely affected by past divestments. I do believe, however, that greater efforts must be made to address the residual effects of divestments in the public sector during the 1990s.
Some groups of divested public sector employees have negotiated agreements with their employers and plan administrators concerning the transfer of assets from their previous to their current plans. These agreements necessarily involve some give and take. While I am not in a position to evaluate any particular agreement, I would expect that each is tailored to suit particular circumstances; that each acknowledges other changes in the workplace bargain, including improvements in salary levels; that each aims to fairly balance the claims of the original and “imported” members of the plan; and that each takes account of other relevant considerations, including the capacity of the importing plan — and the government — to bear additional costs.
Negotiations conducted in good faith among the affected ministries, plans, unions and workers seem to be the most sensible way to resolve these issues. And since difficulties compound with the passing years, the time for negotiations is now.
Recommendation 5-5 — The government should promptly address the pension arrangements for groups of public service employees affected by past divestments and transfers, whether by allowing these groups to use the group asset transfer process proposed in Recommendation 5-4, or by other means, including negotiations with their representatives.
5.3.4 Enabling workers to consolidate their pension assets and entitlements
In Recommendation 5-2, I proposed that workers be enabled to rescue their stranded pensions and to consolidate pension entitlements earned in various jobs into a single account under the management of a new OPA. I now want to observe that this option should be available to them in addition to, rather than in lieu of, the other possibilities I have explored above. As the OPA develops a reputation for sound management and investment of pension assets, this option will become more and more attractive to plan sponsors, plan members and their unions.
Recommendation 5-6 — When a pension plan is being wholly or partially wound up, when a transaction provides the opportunity for a pension asset transfer, or when an active plan member leaves a job in which she or he has earned pension credits, active plan members and retirees should be given the choice of depositing the value of any pension accruals standing to their credit with the Ontario Pension Agency. Sponsors and unions negotiating the consequences of corporate or government restructuring should, by mutual consent, also be able to transfer plan assets to the Ontario Pension Agency in respect of some or all of the members affected.
Finally, under present law, there is no convenient solution to the problem of what to do with the assets of “lost” beneficiaries when a plan is being wound up. Similarly, there is no easy way for beneficiaries to locate pensions they left stranded in companies where they worked many years ago that may long since have gone out of business or acquired new corporate identities. It would be helpful if those beneficiaries had access to a register that would enable them to trace their “lost” pensions.
Recommendation 5-7 — The Ontario Pension Agency should receive and administer funds payable to pension beneficiaries who cannot be located. Plan sponsors should be obliged to file with the Ontario Pension Agency a list of all beneficiaries who cannot be located, and of all deferred members whose assets remain under the control of their plan. Plan members seeking to trace their stranded or deferred pensions should have access to this list.
5.3.5 Coming to terms with change: layoffs, plant closings, plan wind-ups and early retirement benefits
Unfortunately, when corporations curtail their operations, or go out of business altogether — as they often do in a changing economy — severe consequences may ensue for some or all active and retired plan members. Not only do active members lose their jobs, but all members must also confront the fact that their pension plan may be partly or wholly wound up, depending on whether the sponsoring corporation continues in business on a reduced scale, or closes down altogether. Many issues arise at this juncture, ranging from the right of members and retirees to claim any surplus in the plan to the consequences of the sponsor’s insolvency and the possible failure of the plan. These issues are dealt with in Chapters Four and Six, respectively, but they are briefly revisited in this chapter. In the present context, however, the right of particular concern is one that affects the options available to workers who are in the process of losing their jobs: the right to early retirement.
All active plan members are entitled by law to early retirement on an actuarially equivalent basis at age 55, or 10 years before the normal retirement date in the plan. However, when an enriched early retirement option is provided under a plan, employees who have reached the specified age of eligibility may begin immediately to collect their pensions at a higher rate than the minimum required by law, according to the plan terms. For older workers, this is usually an attractive alternative to unemployment. Now for the point of contention: the PBA extends the benefit of such plan-based early retirement options to employees who are not yet eligible under the terms of the plan on a full or partial wind-up; they are given the right to “grow in” to early retirement if their age and years of service add up to 55 “points.” Grow-in rights ensure that qualifying employees will receive undiminished early retirement benefits when they reach whatever age is stipulated in the plan.
Since grow-in rights raise somewhat different issues in the SEPP context, on the one hand, and in the MEPP and jointly sponsored pension plan (JSPP) context on the other, I deal with these two contexts separately.
Grow-in for SEPPs — Grow-in rights constitute a unique and valuable form of assistance to some older workers confronting unemployment due to plant shutdown and corporate closure. But not to all such workers: grow-in rights do not provide access to early retirement for individuals who might otherwise be eligible but lose their jobs other than through a full or partial wind-up of the company; they do not create an early retirement option for active members of plans that do not already provide one; and of course, they do not assist workers who have no pension plan at all. On the other hand, all workers who confront the loss of their jobs may benefit from contractual or ad hoc arrangements provided by sponsors voluntarily or under pressure from unions, and from statutory provisions for severance pay and termination pay, as well.
Should grow-in rights continue?
The Commission heard frequently that grow-in benefits can be very costly. In his study for the Commission, Brian FitzGerald provides examples of plans with enhanced early retirement benefits where the grow-in cost more than triples the burden on the plan of providing such benefits for individuals with 55 points who — in the absence of grow-in — would otherwise not be able to claim them. That said, plans have had to fund grow-in benefits for some time — at least since the advent of solvency valuation whose premise is that a wind-up has, in fact, occurred. The cost of funding grow-ins was perhaps not so evident until the late 1990s, when going concern valuations declined in importance, and solvency valuations became the primary determinant of plan funding. Now it is. It is evident to Nova Scotia — the only Canadian jurisdiction other than Ontario to provide grow-in benefits — which no longer requires them to be pre-funded. And it is evident to critics who contend that the requirement to provide and pre-fund grow-in has the perverse effects of privileging workers who are already privileged by being enrolled in a DB plan with access to early retirement, and of discouraging sponsors from providing any early retirement benefits at all.
On the other hand, many stakeholders clearly sympathized with the use of grow-in to provide redundant middle-aged and older workers with a bridge to early retirement rather than turning them loose on an inhospitable job market. Grow-in, they also note, helps to mitigate the effects of plant closings in single-employer communities where a large proportion of the workforce would otherwise suffer a precipitous loss of income.
While acknowledging the somewhat anomalous features of grow-in benefits, some stakeholders — including some sponsor-side actuarial firms — proposed that access to grow-in should be widened. This might be accomplished either by mandating compensation for lost access to early retirement benefits under the redundancy provisions of the Employment Standards Act or by making grow-in benefits available under the PBA to all workers who find themselves involuntarily terminated, whether as part of a mass redundancy or otherwise.
I favour the latter approach. It ensures fairness between different groups of plan members confronting essentially similar adverse circumstances. It also keeps pension issues within the exclusive control of the pension regulator.
Recommendation 5-8 — Existing “grow-in” rights that provide access to early retirement benefits for all qualifying single-employer pension plan members in the event of a full or partial plan wind-up should be extended to all such members who are involuntarily terminated. “Qualifying members” should continue to be those whose age and years of service add up to 55.
Implementation of this recommendation will likely lead to somewhat higher going concern liabilities for sponsors who have already assumed the additional expense of providing enhanced early retirement benefits in their plans. It would therefore be sensible for the new grow-in rules to be implemented after a transition period to allow sponsors to fund these added costs, or to make appropriate changes to their termination and early retirement arrangements — subject, of course, to their responsibility to negotiate such changes with unions representing their employees.
Grow-in for MEPPs and JSPPs — Currently, MEPPs are, in principle, subject to the PBA rules relating to grow-in benefits, and must fund them accordingly if a plan provides for early retirement. All MEPPs that addressed the point in their submissions maintained that, because they are at low risk of ever being partially or fully wound up, they should not have to provide or pre-fund the grow-in benefits that would ensue in those unlikely circumstances. In Chapter Four I rejected this very argument in connection with the effort of MEPPs to be relieved of solvency funding requirements. However, I did recommend for other reasons that they should be funded on the basis of going concern valuations only. Since grow-in funding pertains only to solvency valuations, if my earlier recommendation is accepted, the requirement for MEPPs and JSPPs to fund grow-in benefits would automatically cease.
A number of policy considerations reinforce this conclusion. First, active MEPP members share the risks of sponsorship and, in most cases, responsibilities for plan governance as well. Given these circumstances — a number of stakeholders argued — the benefit structure of MEPPs should be left to the parties to decide. If the parties wish to provide for enhanced benefits on a partial or full wind-up, they should be able to do so. If not, not. Second, MEPPs argued that sponsor contributions are capped for the duration of a collective agreement. During that period, if the plan experiences a funding deficiency, benefits must be adjusted to make it good. If grow-in benefits have to be provided as well, they will therefore be paid for not by the sponsor but, in effect, by those members (and retirees) who remain in the plan.
Finally, in “classic” MEPPs, like those in the construction industry, active plan members work out of the union hiring hall and are not committed to a long-term relationship with any particular employer. Consequently, their involuntary termination by an employer usually results not in those “terminated” employees becoming unemployed, but in their being reassigned to work for another employer covered by the same sectoral collective agreement and its related MEPP. Of course, if they are not reassigned — because there is no work or for other reasons — they may seek temporary or permanent work outside the industry or remain unemployed. Consequently, in some circumstances it may not be entirely clear whether an active plan member has ceased to be employed and to accrue benefits in the plan and is, therefore, eligible for early retirement and grow-in benefits.
In sum, I am persuaded for all of these reasons that MEPPs are sufficiently different from SEPPs in regard to the determinants of grow-in benefits and that they should be treated differently.
I have reached the same conclusion with regard to JSPPs, and for some of the same policy reasons. When the parties (a) jointly sponsor and govern a plan, (b) share the risks, and (c) have bargained collectively over early retirement and its consequences — all conditions that apply to JSPPs — there is no need to provide additional protection by way of grow-in rights. Similar considerations would apply to the new JGTBPPs described later in this chapter and recommended in Chapter Eight.
Recommendation 5-9 — Multi-employer plans, jointly sponsored plans, and the proposed jointly governed target benefit plans should not be required to provide grow-in benefits.
5.3.6 Flexible retirement
In the previous section I dealt with the controversial issue of grow-in benefits for active plan members who are involuntarily terminated. In this section I deal with the much less controversial issue of active plan members who make a more belated, gradual and consensual transition to retirement. Such workers are often highly valued by their employers; they may work in labour markets characterized by the increasing scarcity of skilled and experienced workers; and they are likely to be in better health than workers of their age used to be. Consequently, they and their employers may have a mutual interest in allowing them to ease into retirement, which might involve their working beyond “normal retirement age” or partially deferring early retirement. Moreover, while recent amendments to the Ontario Human Rights Code outlawing mandatory retirement do not purport to affect the administration of pension legislation or plans, one can foresee that, at some future date, the whole concept of “retirement” as occurring at a fixed or ascertainable point in time may have to be rethought.
Currently, the ITA allows some flexibility for what is called “phased retirement,” but the PBA does not. It should.
Recommendation 5-10 — The Pension Benefits Act should be amended to provide for phased retirement as contemplated by the Income Tax Act.
In addition, a study of phased retirement in all its aspects should be undertaken as part of the ongoing development of pension policy that I advocate in Chapter Ten.
5.3.7 Protecting members’ interests in the pension fund
In the context of significant changes in the economy and the pension system, active plan members and retirees understandably seek reassurance that interests will continue to be protected, even though the modalities of protection may differ from those with which they are familiar. Three particular issues of special interest in this context emerged from the Commission’s hearings and research studies. The first is vesting: when do employees acquire rights to pension benefits that cannot be terminated, even though their employment may be? The second is the disposition of surplus: if the fund has to be wound up as a result of a change in the corporate structure or business of the sponsor, who will be entitled to what is left over — if anything — once the funds necessary to honour the pension promise have been allocated? And the third is annuitization: in what form will funds be earmarked for active plan members when they depart involuntarily from the sponsor’s employment and the plan? Each of these issues is dealt with in turn.
Vesting — Pension plans may decline to extend plan membership to employees with fewer than two years’ service. Moreover, once employees have become members, their benefits vest under the PBA only after a further two years. Until benefits are fully vested, active plan members are entitled upon leaving the plan only to the return of their own contributions (if any), with interest; thereafter, they are entitled to their accrued pension benefits in full, including that portion attributable to employer contributions. Thus, unless the plan itself truncates one or both of these periods, for up to four years after they are hired employees have at best a tenuous grip on their pension rights.
This renders newly hired employees particularly vulnerable in the event that their employment is terminated due to some corporate transaction that results in the loss of their job. However, the PBA offers them some protection: all pension benefits become fully vested in the event of a wind-up or partial wind-up of the plan. Several stakeholders suggested that this limited protection should be extended so that the pension benefits of new plan members should be fully vested as from the moment they join the plan, and not merely against the consequences of a wind-up but against any event that results in the loss of their jobs and pensions.
Quebec has adopted this approach and it seems reasonable to me, especially in light of my recommendation that pension entitlements — even modest entitlements earned by employees with relatively brief job tenure — can be deposited with the OPA and combined with contributions they have earned elsewhere, so that the whole ends up being something more than the sum of its parts. Of course, such amounts might also continue to find their way to other destinations such as the plan of a subsequent employer or a locked-in RRSP account.
Recommendation 5-11 — All active plan members should be immediately vested for all accrued pension benefits. However, as at present, the plan administrator should retain the discretion to authorize the payment out of small amounts in specified circumstances.
Surplus — Current rules require that on full wind-up of a plan, all surpluses must be distributed in accordance with the plan documents and pursuant to specified procedures designed to ensure the sharing of the surplus between the sponsor on the one hand, and active members and retirees on the other. Following the Supreme Court of Canada’s Monsanto decision (2004), FSCO now requires that on partial wind-up, the portion of surplus related to the employees who are involuntarily terminated must also be distributed.
This latter requirement provoked considerable debate during the Commission hearings. Supporters of Monsanto argued that not only did its holding protect entitlements that had been previously ignored, but it also provided benefits to workers confronting the loss of their jobs and future pension expectations in circumstances where replacing either was bound to be very difficult. On the other hand, opponents argued that distribution of surplus from an ongoing plan was both expensive and inequitable. They also expressed frustration with the length of time required for regulatory review of partial wind-ups — a point mentioned earlier in this chapter — due, at least in part, to the complexity of surplus issues introduced by Monsanto and its possible retroactive effects. Some proposed that the concept of partial wind-up be deleted from the PBA; others proposed that if the concept is retained, surplus distribution should no longer occur on a partial wind-up.
The arguments for and against Monsanto must now be revisited in light of my recommendations in Chapter Four regarding surplus distribution. If those recommendations are accepted, surplus will be distributed on wind-up, either in accordance with the plan documents or, if they are not clear, following negotiations and recourse to a dispute resolution procedure. Furthermore, in the case of ongoing plans, surplus should be used first, to build and maintain a security margin; second, for contribution holidays and the payment of plan expenses, and third — only if it has grown to exceed 125% of required funding — for possible withdrawal by the sponsor pursuant to the same procedures proposed for withdrawal of surplus on wind-up.
These recommendations, in my view, place great emphasis on promoting the health of ongoing plans by laying down two conditions for surplus withdrawal: preservation of a very substantial balance in the plan, and the adjustment of competing claims through negotiation or, if necessary, recourse to a dispute resolution procedure. By contrast, Monsanto — whatever the arguments in its favour — envisages an automatic distribution of surplus regardless of the balance in the ongoing plan and without recourse to any such procedure. I am therefore disinclined to the Monsanto approach.
This is not merely a striving for consistency; it is a reaction to the experience of many plans over the past decade that have seen surpluses come and go quite quickly in response to fluctuations in financial markets. This was the rationale for not giving sponsors easy access to surplus, and it is a rationale that applies as well when the contest over surplus pits the terminated members against retirees and ongoing members, neither of whom would — under the proposed surplus rules — have unrestricted access to surplus.
Nor would a modification of the Monsanto rule leave involuntarily terminated members with no recourse to the plan assets in their moment of need. As proposed above, I believe that they should be eligible for grow-in benefits. They may also be eligible for plant closure benefits, if any are provided by the plan. And finally, as discussed below, these terminated employees are to be assisted in maintaining the security of their pensions either by remaining as deferred members of the existing plan or by transferring the value of their pensions to the new OPA. If, however, pursuant to Monsanto, they also receive a share of the plan surplus, they are being placed in a preferential position relative to continuing plan members and retirees who have no access to surplus except in the limited circumstances noted above.
Finally, restraint in the distribution of plan surplus is not just a matter of fairness as between the terminated members and other plan beneficiaries. Keeping plans in surplus is a way of protecting the Pension Benefits Guarantee Fund (PBGF), which may be called upon to assist if, at some point, the plan has insufficient assets to meet its obligations.
For all of these reasons, it seems inappropriate that a partial wind-up should precipitate a distribution of surplus, as Monsanto requires. A better approach, I think, would be to ensure that the terminated members are placed in the same position as they would have been if the partial wind-up had not occurred. That is to say, so long as they are members of the plan, albeit deferred members, they should be eligible to participate in any surplus distribution permitted under my recommendations in Chapter Four on the same basis as if they had remained active members.
Recommendation 5-12 — Active plan members who are involuntarily terminated, whether in groups or individually, while a plan is ongoing, should not be entitled to an immediate distribution of surplus. However, those who leave their pension assets in the plan should retain the right to participate in any subsequent surplus distribution.
Annuitization — Finally, several submissions were critical of a recently adopted regulatory requirement that plan administrators must annuitize all members terminated as a result of a partial plan wind-up who elect to remain as deferred plan members rather than transfer the commuted value of their pensions to another plan or to a locked-in investment account. Cost seems to be a primary concern: pension plans shopping for annuities must buy them from an approved Canadian insurance company. The list of approved companies is short and competition is restricted, so prices of annuities are high. Moreover, annuitization may or may not be in the interest of terminating members. If their funds are shifted from the plan to an annuity, they will not benefit from any future growth in its assets because they will be ineligible for any future distribution of surplus under Recommendation 5-12, or for future ad hoc indexation or benefit increases. On the other hand, it is certainly true that annuitization enhances the security of their benefit. An annuity is the “pension bird in the hand” for involuntarily terminated employees; they might sensibly prefer it to “two in the bush” plan. However, these employees have other options that might provide comparable security: they may deposit the value of their pensions in the new OPA, where their funds will be invested, will continue to grow and in due course, will yield a pension; or they might deposit them in a locked-in account, which, if conservatively invested, will yield only a modest return but will be relatively safe.
I also addressed the annuities question to some extent in Chapter Four. Given my concerns about the annuities market and the further work to be done on this issue, I am reluctant to accept that the pensions of all members terminated because of a partial wind-up must be annuitized, though annuitization may sometimes be the best answer for all concerned.
Recommendation 5-13 — Involuntarily terminated members may have their benefits annuitized at the option of the sponsor.
5.3.8 Definition of “wind-up” and “partial wind-up”
Wind-ups often signal changes in the sponsor’s ownership, organization, business fortunes or very existence. They have, therefore, long been identified as a moment for acknowledging the rights of plan sponsors, active members and retirees. For example, wind-ups have triggered entitlement by terminating members to grow-in benefits, annuitization of their accrued benefits, the vesting of the rights of active plan members, and the distribution of surplus. However, recommendations made earlier in this chapter have stripped partial (if not full) wind-ups of most of these dramatic consequences.
Nonetheless, wind-ups remain landmark events in the life of a pension plan. Wind-ups represent the moment when individual entitlements may be crystallized for some — or all — active and retired members and, consequently, when a balance must be struck among their competing claims. And of course, the sponsor is not a mere onlooker. Assessing the state of the plan in order to strike that balance may reveal whether the plan is in surplus or deficit and whether the sponsor can benefit from the former or must make good the latter. Finally, because wind-ups and partial wind-ups are often occasioned by a corporate transaction, the financial state of the plan becomes important to third parties.
However, the PBA does not clearly identify the moment at which a partial wind-up occurs; rather, it gives the Superintendent open-ended discretion to make that decision. No percentage of the workforce or number of workers is specified as a threshold that must be crossed to distinguish a partial wind-up from other, less significant changes in the corporation’s structure or activities; nor are partial wind-ups clearly distinguished from full wind-ups.
Many stakeholders, especially SEPP sponsors, argued for greater clarity and precision in the definitions of full and partial wind-up on the ground that they could not predict whether particular transactions would or would not require the Superintendent’s approval, and would or would not trigger particular consequences for the plan. Moreover, they said, determining the answers to these questions is time-consuming and expensive. The result is that corporate transactions that might affect the plan are fraught with uncertainty. Nor is this last concern confined to sponsors: active members and retirees also wish to have their rights decided speedily and predictably.
It seems to me that form should follow function: that wind-ups and partial wind-ups should be defined in such a way that these labels are applied in situations when doing so advances the statutory purposes associated with wind-up procedures.
If my recommendations are accepted so that partial wind-ups are shorn of many of their present implications, it seems appropriate to regard them less as a moment when rights are determined than as an occasion to assess the overall state of the truncated plan. For example, when there has been a significant shrinkage of the workforce, the regulator ought to be able to determine that the full wind-up provisions are not being avoided, that payments of commuted values out of a plan reflect its current funded ratio, and that the remaining elements of the plan are viable. If that is their purpose, the threshold for declaring a partial wind-up should be relatively high.
Recommendation 5-14 — Partial wind-ups of single employer plans should be declared by the Superintendent only when 40% of the active members of the employer are terminated within a two-year period. In such circumstances, administrators should file a plan reduction report, which would enable the Superintendent to ensure that plan funding is secure.
Full wind-ups present entirely different issues. Determination of the rights of the parties in such an event is unavoidable — and indeed desirable. The only problem is how to recognize a full wind-up when it occurs and to preclude sponsors from avoiding its consequences — including making good any deficiency in funding — by continuing to employ some small part of the workforce and maintaining plan membership for those workers.
Recommendation 5-15 — When 90% of the active members of a single employer plan are terminated within a two-year period, the Superintendent should have the power to require that the plan be wound up or reconfigured. This power should be used only if the Superintendent concludes that either (a) the sponsor is not acting bona fide, or (b) the plan in its reduced state is unable to meet its obligations.
Although this happens rarely, MEPPs and JSPPs may also undergo partial wind-ups. In MEPPs, partial wind-ups obviously do not occur when one employer goes out of business or severs its relationship with the union and therefore the plan — or even when several do — since arrivals and departures are an intrinsic feature of any ongoing MEPP. However, since both MEPPs and JSPPs are collectively bargained, the parties may choose to stipulate in advance whether the plan will survive the departure of a significant proportion of either sponsors or active members. In addition, the partial wind-up of a MEPP may occur if there is a split within a union that negotiated the plan, if the dominant sponsor in the plan leaves, or if a significant proportion of employers is affected by a serious downturn in the industry. Such events need not trigger pension entitlements but might sensibly trigger a report on the plan’s viability, either on the initiative of the administrator or on orders from the regulator.
Finally, given the change from solvency to going concern funding for MEPPs and JSPPs, recommended in Chapter Four, new benchmarks need to be developed to assess their funded status. These benchmarks should also be used to determine the viability of a plan undergoing a major change in sponsor, union or employee membership.
Recommendation 5-16 — If a multi-employer or jointly sponsored pension plan experiences a reduction of 40% of its active members, or of sponsors providing 40% of its contributions, or if the sponsoring union splits, the administrator should prepare a plan reduction report and file it with the regulator. The regulator may require the administrator to prepare such a report if there are reasonable grounds to believe that the plan may no longer be viable.
5.4 The Effect of Corporate Restructuring on Plan Funding and Design
When a sponsor sells or divests part of a business and the purchaser hires some of the employees and wishes to maintain continuity in their pension coverage, a pension plan may be split. When a sponsor buys another business and wishes to integrate its pension plan with that of the new business, the two plans may be merged. And when a sponsor sells or buys a part of a business and wishes to arrange that pension assets should follow the active plan members who migrate from one of those businesses to the other, the sponsor may arrange for an asset transfer between the two plans. It is important to facilitate these transactions so long as they are bona fide attempts to maintain a plan and continue benefit security. Doing so will help to maintain a favourable environment for DB plans — one of the principles informing this report.
However, splits, mergers and asset transfers seldom meet with unanimous approval. Some oppose them in the context of more far-reaching concerns about the negative effects of corporate restructuring on job security, wages and benefits. Others suspect them as attempts to siphon off plan assets — especially surplus assets — for business purposes. The former concerns will have to be addressed in other forums; they do not fall within my mandate. The latter obviously do, and are addressed in this chapter as well as Chapters Four and Six. However, the fact is that numerous legal objections, court decisions and regulatory interventions in recent years have greatly complicated the treatment of pension transactions. As a result, some of the delays in processing transactions before FSCO can be attributed directly to anticipated or ongoing litigation or the fallout from past litigation.
My objective, then, is to suggest how the pension implications of business transactions can be resolved in a predictable and timely fashion and with due regard for the integrity of pension plans and the rights of plan members and retirees.
5.4.2 Plan splits and mergers
When a plan merges with another plan, or when a plan is split into two or more parts, two outcomes seem to be generally agreed: splits and mergers should not result in liabilities being collected in one plan and assets in another; and changes in benefit structure introduced following a split or merger should have effect prospectively, without prejudice to the accrued benefits of active and retired plan members. The more difficult question is whether, or to what extent, deficits and surpluses can be exported or imported from one plan or part of a plan to another. FSCO policy currently prevents a plan that is at or over full funding from being brought below full funding as a result of a merger or split, and an under-funded plan from having its funded ratio further reduced. The rationale — which I endorse — is that benefits should be no less secure than they were as of the date of the transaction.
Until recently, FSCO had no policy on the redeployment of surpluses following a split or merger, nor does the PBA explicitly address the issue. As a result, sponsors were free to allocate surplus in whichever way facilitated the underlying corporate transaction. However, as a result of recent litigation, FSCO has adopted a policy that restricts the transfer of surpluses whenever the plan in surplus has its origins in a pension trust. Only when the language of the trust clearly permits surpluses to be transferred will FSCO approve a transfer. However, many trust documents are not as clear as they might be, and relatively few contemplate future splits, mergers or other transformations in the configuration of the plan. As a result, sponsors are often denied the opportunity to deploy plan surplus in the way that would most assist them in consummating their corporate arrangements, or for that matter, in the way that would be most beneficial to the newly merged or split plans. In particular, without recourse to court and/or the regulatory processes, sponsors of trust-based plans can no longer integrate a plan somewhat in surplus with one somewhat in deficit to achieve a single, merged plan that is more or less fully funded.
While no doubt most sponsors and some plan members would welcome greater flexibility in dealing with surplus transfers, it is also understandable that members of a plan whose surplus is to be redeployed for the benefit of others might take a different view. The latter view, however, ultimately rests on the assumption that they own the surplus. In Chapter Four I reject that view, along with the view that surplus belongs to sponsors. Instead, I favour a presumption (absent clear contrary language) that surplus must be used to serve the purposes of the plan: to pay for contribution holidays or plan expenses; to be shared between the parties on plan wind-up; in very exceptional circumstances and after complying with specified procedures, to be available for withdrawal while the plan is ongoing; and most importantly, to provide a 5% security margin to buffer the plan against fluctuations in its funded status.
The object of these arrangements is, on the one hand, to ensure that the plan is well-funded and secure, and on the other, to incline sponsors to feel more comfortable with the accumulation of surplus in the plan, thereby contributing to its security over the long term. Applying that same approach to the current issue, I am persuaded that sponsors should be able — within carefully specified limits — to export surplus derived from a previous plan in order to fund a new plan. Putting aside cases where the plan documents forbid the transfer of surplus in specific language rather than by inference from language of general application, I am also persuaded that a standard, non-litigious process for approving such transfers would be an improvement over present arrangements.
Recommendation 5-17 — Any surplus in a plan that is to be split (the “original plan”) can be allocated to any of the new plans derived from it, provided that the liabilities associated with the original plan and all of the derivative plans remain fully funded (including the 5% security margin) as of the date of completion of the transaction.
Recommendation 5-18 — Any surplus in a plan that is to be merged with another plan can be assigned to the merged plan, provided that the members of the original plan remain in the new merged plan, and that the merged plan itself is fully funded (including the 5% security margin) as of the date of completion of the transaction.
The purpose of these requirements is to ensure that arrangements for the transfer of surplus ultimately protect the interests of plan beneficiaries, rather than improve the financial position of the corporate parties to the transaction. It is therefore important that active plan members and retirees whose pension security is at issue should have an opportunity to learn about and speak to the proposed use of surplus. If they or their union consent, and if there are no other legal impediments, the regulator should be able to provide an advance ruling approving the surplus transfer, as proposed in Chapter Seven. This will facilitate completion of the transaction.
Recommendation 5-19 — A sponsor considering a plan split or merger must give notice of the proposed transaction to active plan members and retirees, and any union or other organization representing them. The notice should be accompanied by an accurate, readily understood explanation of its implications, as well as technical data relating to the new plan in a form approved by the regulator.
If the union or representative organization approves of the proposed transaction or, in the absence of such an organization, if the transaction is approved by two-thirds of the active members and retirees voting in a secret ballot, the approval shall be filed with the regulator. Upon receiving the approval and ensuring that the transaction is otherwise in accordance with Recommendations 5-17 and 5-18, the regulator may, without further delay, issue an advance ruling approving the transaction.
In the absence of approval from the union, organization or plan beneficiaries, the sponsor must give 90 days’ notice to all interested parties and to the regulator. After expiry of the 90-day notice, the regulator should process the proposed transaction in the normal manner.
Where a split or merger is proposed by any plan on whose governing body at least 50% of the members are nominated by active plan members and/or retirees, approval by that governing body should serve in lieu of the approval process set out in this recommendation.
I am hopeful that if sponsors are given greater freedom to fund new plans with the surpluses of their original plans, the result might be a somewhat higher plan enrolment overall. Conversely, I am concerned that excessive rigidity with regard to the use of surplus in plan mergers and splits might tempt sponsors to use the occasion of a corporate transaction to discontinue their plans altogether. And finally, I acknowledge that once a new merged or split plan is established, all of its members — including those absorbed from the original plan — are meant to pool their assets and share their risks, and that deviations from this approach are, to an extent, incompatible with the fundamental principles of DB plans.
All of these considerations suggest that the shadow of the original plan ought not to hang over the new plan or plans that result from a split or merger. On the other hand, I am extremely reluctant to propose any arrangements that might move some active plan members and retirees from a position of security to one of insecurity, even though the result might be to facilitate the transaction. The reconciliation of these conflicting concerns becomes extremely difficult in borderline situations where a little flexibility might produce positive results with relatively modest risk. The following recommendation represents my best effort at such reconciliation.
Recommendation 5-20 — Notwithstanding Recommendations 5-18 and 5-19, a sponsor may, with the consent of the Superintendent, use surplus from the original plan to fund a new plan into which it has been merged, or from which it is derived, provided that (a) if the original plan continues in force, its security margin is maintained; (b) the new plan is funded at not less than 100% from its inception by sponsor contributions, if necessary; and (c) the security margin in the new plan is funded within five years.
Recommendations 5-17 to 5-20 do not address a situation in which the original plan is under-funded. Under present rules, the result of a split or merger must be that such a plan should not be worse off after the transaction than it was before. This seems sensible to me, and I recommend no change in this regard.
5.4.3 Plan conversions
In Chapter Three I noted a modest shift in pension coverage in Ontario — far less than in the United Kingdom or the United States — away from DB plans and in favour of defined contribution (DC) plans. In Chapter Nine I propose a strategy of promoting innovation in plan design that, to my mind, offers the best prospects for expanding overall pension coverage in tandem with high-quality pensions. An important feature of that strategy is the introduction of new models of plan design, some of which involve a combination of elements of DB and DC plans.
Inevitably, innovation involves not only the creation of entirely new plan models, but conversion of existing plans to new designs. In fact, the process of converting existing plans is already well under way, though not necessarily with a view to promoting broader pension coverage or enhanced pension quality. A number of DB plans have been converted to DC plans or hybrid plans, and more conversions are predicted. These conversions may be attributable to changing member preferences or, more likely, to the desire of sponsors to reduce the volatility and costs ascribed to DB pensions. They may be triggered by a reassessment of the sponsor’s pension arrangements, by a general corporate reorganization, or by the sale of a business to a new owner with less commitment to the existing DB plan. Of course, plans that are the result of collective bargaining agreements may convert only if and when the union agrees.
Whatever the occasion or motivation, under current rules, a DB plan may be converted to a conventional DC plan or to a hybrid plan. Hybrids may take many forms: existing members continue to accrue DB benefits while new members accrue DC benefits; DB accruals may terminate for all employees and all future accruals take the form of DC benefits; or both DB and DC benefits may accrue simultaneously with, say, a DB base benefit topped up with DC benefits. Any of these combinations are permissible at present, and the range of options may be extended further, if my recommendations in Chapter Nine are accepted.
Now the controversial point: in some conversions, sponsors seek to use surplus from the original DB plan to make the transition to a DC or hybrid plan, typically by using the surplus to fund a contribution holiday. The recent Kerry decision (now on appeal to the Supreme Court of Canada) held that this use of surplus is permissible under Ontario law.
The financial appeal of such an outcome to sponsors is obvious, and it has been defended by them as offering an incentive to continue to provide some kind of plan — albeit with a different benefit structure — rather than no plan at all. And some plan members doubtless favour conversions as well, given that they can usually exercise greater control over their pension assets under DC than under DB plans. On the other hand, the use of DB surplus to fund a conversion to a DC plan has also been characterized as subsidizing the trend away from DB plans, contrary to the policy favouring such plans expressed in my mandate. From this perspective, the more obstacles to conversion, the less likely conversions are to occur. Preventing the use of surplus would be one such obstacle.
In the end, however, my conclusions on this matter are influenced more by my previous analysis of surplus use than by a debate over the relative merits of DB, DC and various hybrid designs. The first claim on the use of surplus, in my view, ought to be to maintain the security of earned entitlements. Since the new DB funding rules (see Recommendation 4-15) require the provision of a security margin of 5% over full funding, it follows that the same margin should be maintained both for DB accruals under the old plan and for further DB accruals, if any, under the new, converted plan. As outlined in Chapter Four, surplus remaining after the security margin is provided should be available for the purposes of the plan.
Recommendation 5-21 — Following conversion from a defined benefit to a defined contribution plan, or to a hybrid plan with elements of both, surplus carried over from the original plan should first be used to provide the required security margin for defined benefits earned under either plan. If additional surplus remains, it should be available to fund contribution holidays or other expenses of the converted plan.
Conversions are complex transactions and may lead to a significant change in the pension entitlements of members of the original DB plan. Where the plan is embedded or originates in a collective agreement, the union’s consent to conversion is required as a matter of labour law. When the fate of the plan is wholly within the control of the sponsor, detailed communication with plan members concerning the implications of a conversion is highly desirable and, indeed, usually undertaken by sponsors as a matter of good practice.
It would be a positive step, I believe, if this practice were made mandatory.
Recommendation 5-22 — A sponsor considering the conversion of a defined benefit plan to a defined contribution or other type of plan must give notice of the proposed conversion to active and retired plan members and to any union or other organization representing them. The notice should be accompanied by an accurate, readily understood explanation of its implications, as well as technical data relating to the new plan in a form approved by the regulator.
If the union or representative organization approves of the proposed conversion or, in the absence of such an organization, if the conversion is approved by two-thirds of the active members and retirees voting in a secret ballot, the approval shall be filed with the regulator. Upon receiving the approval and ensuring that the transaction is otherwise in accordance with Recommendation 5-21, the regulator may, without further delay, issue an advance ruling approving the conversion.
In the absence of approval from the union, organization or plan beneficiaries, the sponsor must give 90 days’ notice to all interested parties and to the regulator. After expiry of the 90-day notice, the regulator should process the proposed transaction in the normal manner
Where a split or merger is proposed by any plan on whose governing body at least 50% of the members are nominated by active plan members and/or retirees, approval by that governing body should serve in lieu of the approval process set out in this recommendation.
5.4.4 Pension transactions involving closely related corporate entities
Some stakeholders have expressed concerns that corporate transactions resulting in the reconfiguration of pension plans and the use of plan assets may be motivated by a desire to siphon off plan assets. Such concerns are no doubt heightened when the corporations involved are closely related — subsidiaries of a common parent company, for example — or corporations that own each others’ shares or have common directors or management personnel. And they are heightened still more when those corporate entities do not enjoy comparable financial health. These concerns are not limited to plan members and their union representatives. For example, the United Kingdom has recently conferred powers on its pension regulator to determine whether a plan is being transferred from a sponsor of substance to one that is effectively a shell with few assets — and in appropriate cases, to reverse such transactions.
Corporations have many legitimate reasons for carrying on their business through a number of different entities, and for coordinating the activities of these entities through a web of common shareholdings, directors and managers. Indeed, this is a commonplace corporate strategy in Ontario and other advanced economies. If public policy is to accept and support the transactions that execute this strategy, however, it is important that public confidence in the integrity of the transactions be maintained. The discovery that the security of a pension plan had been intentionally compromised in the course of such transactions to the financial advantage of the sponsor or the members of its corporate family would undermine that confidence.
Consequently, I am persuaded of the desirability of providing Ontario’s pension regulator with powers analogous to those enjoyed by the U.K. regulator. The powers should relate only to transactions between non-arm’s-length corporations, which are particularly vulnerable to attempts to isolate the pension plan from corporate assets, and should be carefully designed so as to interfere as little as possible with what have been, up to now, matters wholly within the sponsor’s discretion. Other sections of this report recommend that the Superintendent develop methods to assess the status of sponsors and whether that status may put plans at risk of failure. As those methods develop, it may be appropriate to use them, as well, to provide information on transactions such as plan mergers and splits — even in relation to arm’s-length transactions. In the meantime, it should be open to active members, retirees and representative organizations to make submissions as to how a change in corporate sponsorship may affect the security of the plan in particular circumstances.
Recommendation 5-23 — The regulator should have the power to review the effects of a plan split, merger, asset transfer or other pension transaction involving related corporate entities in order to ensure that the plan’s financial prospects have not been compromised by being assigned to a less solvent corporate entity. The regulator’s powers should be exercised in accordance with specified criteria, and should include the power to (a) require a plan to be brought up to its previous funding level, or 105% of full funding, whichever is the lesser, (b) require the previous sponsor to provide guarantees that the new sponsor will meet its obligations to the plan, and (c) rescind the transaction.