February 25, 2009
VIA Regular Mail & E-Mail: Pension.Feedback@ontario.ca
The Honourable Dwight Duncan
Minister of Finance
c/o Pension and Income Security Policy Branch
5th Floor, Frost Building South
7 Queen's Park Crescent
Attention: Comments on Report of the Expert Commission on Pensions
Re: Buck Consultants' Response Submission on the OECP Report to the Ontario MoF
Pursuant to your request for focussed feedback on the Report of the Ontario Expert Commission on Pensions (OECP), we are pleased to attach our response submission.
We note also that the OECP Report was prepared before the recent meltdown of the financial markets. In this regard, our industry organization with respect to MEPPs – MEBCO - made a submission on this topic in January, outlining the need for short-term relief. We reiterate that need.
Thank you for your consideration of our comments on the OECP Report. We look forward to the Government's forthcoming pension reform.
Original signed by
H. Clare Pitcher
Principal & Consulting Actuary
First of all, we would like to commend the Ontario Expert Commission on Pensions (OECP) for their outstanding work over the past two years.
We have broken our brief response submission down into four major sections, coinciding with the terminology used in the OECP Report: Single Employer Pension Plans (SEPPs), Jointly-Sponsored Pension Plans (JSPPs), Multi-Employer Pension Plans (MEPPs), and the newly-created Jointly-Governed Target Benefit Plans (JGTBPs).
In summary, we were generally disappointed with the recommendations in respect of SEPPs, but were generally pleased with the recommendations in respect of JSPPs and MEPPs, with some fine-tuning. We were particularly pleased with the newly-created and innovative JGTBP plan design because of our belief in its potential to significantly increase pension plan coverage in Ontario and indeed Canada.
We applaud many of the OECP's recommendations with respect to target benefit plans and other innovative plan designs. We also support stronger pension committees with clear mandates, clear policies on funding and investment and all round stronger governance. We believe that framework will provide better security and management of plans and is certainly not just paperwork. We would suggest some simplification of existing legislation to ensure the new frame work does not increase the administrative costs to employers.
We are disappointed however, to see the lack of solutions offered to address the current imbalances faced by sponsors of SEPPs. While the recommendations put forth may increase the benefit security for current plan members, they do not alleviate the current burdens faced by sponsors of traditional DB plans, nor do they do anything to promote and increase DB plan coverage.
It is straight forward to create a plan that applies from this day forward that is simple and easy to run – DB or DC. But there is little gain for the employer in running costs (dollars and time) in doing that because they are stuck with the past service benefits in their current, often horribly complex, form. Therefore any successful reform must tackle the legacy issue.
Currently the only option realistically available to companies who would like to reduce the complexity of their pension plans is to wind them up. The problem with any of the other paths taken by plan sponsors to simplify their retirement plans (i.e. move to a DC plan for future accruals and either freeze benefits under the existing plan or allow members to convert accrued benefits to a DC account) is that the PBA and FSCO policy require members be given the right to retain their accrued benefit in precisely the form in which it was earned.
Innovative solutions must be sought that will allow sponsors of SEPPs to redesign DB plans on a retroactive basis – and in a way that is fair to the member. We are proposing a "DB to DB" conversion, where companies can, for example, convert their complex DB plans with different formulas for different groups of employees and different periods of service and all types of ancillary benefits, to a very simple, one formula for all, DB plan.
Such redesigns do not need to involve reducing accrued benefits. But they do require some flexibility on the part of plan sponsors to be able to convert accrued benefits in some fashion.
Consider a simple example:
Under the current complex formula an employee with 10 years of service has an accrued pension of $5,200 with a current value of about $25,000. The new plan is a simple 1% accrual and the employee has pensionable earnings of $50,000. The new benefit is an accrued pension of $5,000 with a value of $23,000.
Our model works as follows.
In this example, the value of the new accrued pension in the simplified plan is $2,000 (only 8.7%) less than the value of the legacy benefit. The value "trimmed" from the legacy DB plan can be converted to a DC account or transferred to the member's RRSP, or can be used to purchase extra service.
We recognize that there are stumbling blocks under the Income Tax Act to this "DB to DB" conversion proposal that would restrict our proposed approaches in some circumstances. But a few simple changes to the PBA would add significant flexibility to Plan sponsors who would like simple DB alternatives, without reducing the value of or significantly altering members' accrued benefits.
We also recognize that giving a plan sponsor the flexibility to alter a member's benefit comes with responsibilities to communicate and disclose these changes to members. We therefore support and recommend full transparency and disclosure to plan members of such changes.
The OECP recommendations allow employer access to surplus in an ongoing plan, subject to certain funding margins being maintained. We welcome this increased flexibility. However, the OECP report offers little in the way of solutions for plan sponsors having to deal with unclear surplus language in their SEPP documents. The report of Alberta and British Columbia joint Expert Panel on Pension Standards (ABC ECP) includes a recommendation that we believe is a very effective way of dealing with legacy surplus issues of an existing plan. That report provides plan sponsors with the ability to freeze an existing plan with its legacy surplus issues and start a brand new plan. This new plan would "wrap around" the old frozen plan and would be governed by contract law principles that clearly set out entitlement to any surplus.
Benefits under the frozen legacy plan could be settled through annuity purchases or even transferred to the OECP's proposed Ontario Pension Agency.
The OECP recommends that every pension plan include a statement regarding the provision for indexation of benefits, and further suggests that the Government have the unilateral right to impose indexation of benefits under a pension plan, in the event of an "inflation emergency".
We fail to understand how this helps anyone. This is the type of requirement that could put severe strains on businesses already having to deal with the pressures of an "inflation emergency" and could result in layoffs and even bankruptcy for some employers. Since the bankruptcy of a company leads to the wind up of that company's pension plan, then where is the inflation protection offered by such imposed indexation?
It is one thing to impose funding requirements, but to impose a benefit provision that increases accrued benefits that may very well be underfunded makes no sense. A provision such as this will have the opposite effect of what the OECP is trying to accomplish with its recommendations. It will likely reduce benefit security and ultimately decrease DB pension plan coverage.
We urge the OECP to remove this recommendation.
The key OECP recommendation from our perspective with respect to JSPPs is the exemption from solvency funding, which we fully support.
The OECP has clearly recognized and understood the unique nature of MEPPs and made its recommendations accordingly. In particular, we are pleased that the OECP has recognized that “one size does not fit all” when it comes to funding requirements, as they relate to SEPPs versus MEPPs and JSPPs (and JGTBPs).
There were a number of recommendations made by the OECP, many of which we fully endorse, as follows:
There were some other recommendations which we cannot support and recommend otherwise, as follows:
Currently, individual lump sum commuted value (CV) terminations are required to be paid out at 100% of CV (although a portion of it may be delayed for 5 years). This is unfair to the remaining plan members who continue to bear the risk of potentially inadequate assets to fund their benefits. Furthermore, the terminating member has the option to leave his/her money in the plan, take a deferred annuity, take the risk along with the rest of the members, and eventually presumably get the full 100% benefit.
Therefore, our recommendation is that – to the extent transfers out are allowed – only payment of the windup/transfer ratio (TR) be required, i.e. TR x CV (maximum 100%), and nothing further at the end of 5 years. It’s simply a matter of equity and fairness between all plan members. The calculation of TR and CV would be consistent, since both would be calculated based on similar current market interest rates. This methodology is also consistent with not funding on a solvency basis.
In our view, this is the type of adjustment contemplated by the OECP in its statement on Page 93 of the report, “….if….MEPPs….are funded on a going-concern basis alone, it will be necessary to develop some other basis for valuing asset transfers”. We suggest that that “other basis” is limitation to the TR. As well, on Page 20 of the Expert Advisors’ Consensus Recommendations on Technical and Operational Issues, it is noted that – with respect to MEPPs – “If plans are funded only on a going-concern basis, the basis for commuted value payouts should be considered”. This fact was recognized also by the Alberta/BC joint expert panel.
Finally, within the field of pensions, MEPPs are unique. It is this uniqueness which not only makes them “special” but also requires a legislative framework which embraces that uniqueness and encourages not only their survival but indeed their flourishing. It is our hope that the Government of Ontario will implement such future permanent legislative framework.
In broad terms for MEPPs, we recommend no solvency funding requirement (just as did the OECP) and no more stringent going-concern funding requirements than for single employer plans. However, we would not be averse to enhanced regulatory requirements in the following areas: stronger disclosure and communication to plan members of the plan’s windup ratio and its implications, i.e. that benefits may be reduced by x% in the unlikely event of plan windup; increased governance requirements as per the CAPSA model; and requirement for a formal Funding Policy outlining the plan’s funding objectives, the various risks involved, and incorporating the desired degree of conservatism/risk mitigation.
Bottom-line is that the conservatism inherent in the funding of MEPPs needs to be flexible and not prescribed, which is inflexible…..flexible conservatism (as per funding policy) works for MEPPs, while prescribed (inflexible) conservatism does not.
We are optimistic and excited by the OECP’s clear recommendation for innovation in Ontario’s pension system, and we are very much in agreement with the belief that Jointly-Governed Target Benefit Pension Plans (JGTBPs), in particular, have a very important role to play in the future of pension plans in Ontario. JGTBPs resolve most, if not all, of the current barriers to the traditional DB plan. The OECP report has paved the way for this new alternative DB pension plan design. For this reason, we felt compelled to expand on the OECP’s recommendation so that JGTBPs can become a viable option, with as few obstacles to implementation as possible.
JGTBPs have been around for over half a century in the multi-employer setting and have been a very successful alternative to the traditional DB and DC plans. The proof in this is that almost half of workers, who are currently members of pension plans, are covered under JGTBPs (currently referred to as MEPPs). If this type of plan has worked so well, for so many, and for so long, then why not expand the legislation to allow the advantages of this plan design to the rest of the province?
From the report, it is proposed that JGTBPs be available when workers belong to either a trade union or “union-like organization”. We strongly believe that this type of plan can work perfectly well in SEPP environments not represented by a union or union-like organization, but instead where members are represented by a democratic association that has the interests of the members at heart, and the necessary knowledge to act on behalf of the members. The governing body representing the members could range from members elected by a voting process, to a professional organization, to hiring professional specialists associated with the members, similar to how many chairpersons of boards currently operate. In any event, the point being, that the absence of a union need not limit the JGTBP alternative from application to SEPPs.
Of critical importance is the logistics of making this happen, and one significant challenge will be how to convert benefits accrued under current DB and DC arrangements. Of course, the JGTBP could be set up prospectively only, but that doesn’t alleviate any of the current burdens associated with what would then be the “frozen benefits”. So the challenge is how to convert in a manner that is fair to members and not overly burdensome to plan sponsors.
With respect to DC plans, the conversion would be relatively easy in that likely the same formula adopted for establishing the relationship between benefit and contribution levels of the JGTBP would be used to convert existing account balances. However, conversion of accrued DB benefits could be more of a challenge.
Many DB plans are in a surplus position on an ongoing or long-term basis because of the large contributions that have been remitted to the pension funds over the last few years due to solvency deficiencies. If these benefits are being converted to a JGTBP, then in future, solvency will not be a concern for reasons discussed in the OECP report with respect to MEPPs. Employers may be willing to share some of that ongoing surplus to provide additional benefits under the JGTBP, in exchange for the member assuming some additional risk that benefits may possibly be reduced in future. Thereby, the actual accrued benefit and some portion of surplus could be converted on a legislated or negotiated basis that is fair to both members and plan sponsors.
If there is no surplus, or minimal surplus or minimal deficiency, on an ongoing basis, then perhaps the plan sponsor will need to make additional contributions over a period of time to provide for additional benefit security to members. This could still be favourable to plan sponsors as the additional contributions could possibly be less than the solvency contributions currently required.
And, if the plan is currently in a large deficit position on an ongoing basis, it may be that the employer will be required to fund it, or negotiated otherwise between the employer and the employees. In any event, open and free dialogue between the parties is important to achieve a positive end result and maintain pension plan coverage.
The above logic assumes that while most plans will be hard hit by the current economic downturn, assets will recover to some extent by the time legislation is enacted and the actual JGTBP is set up. As well, additional solvency funding required as a result of declining asset values, may further contribute to the ongoing surplus position of plans over the next few years.
Our hope is that the legislation would be flexible enough to allow for the negotiation of the terms of transition between plan sponsors and members, as the alternative of having no pension plan at all (from the members’ perspective) or losing a talented workforce (from the sponsor’s perspective) provides great incentive to work things out, and will lay the groundwork for the joint governance foundation that is critical to making the JGTBP a success.
Our understanding is that legislation based on the OECP’s recommendations will be enacted gradually over a period of time. We respectfully request and urge you to give priority by preparing legislation that will enable JGTBPs to become a part of the current pension system so that JGTBPs may be accessible to all.
As indicated earlier in this submission, we are extremely excited by the tremendous opportunities presented by this report – if its recommendations are implemented by the Ontario Government – for increasing private pension plan coverage in Ontario, the key mandate of the OECP.