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Hewitt Associates would like to commend the Ontario Expert Commission on Pensions (Commission) for its hard work and dedication in delivering an important Final Report (Report), and the Ontario Government (Government or Province) for extending an opportunity for all stakeholders to provide comments and input. Even before the current financial and economic crisis, the reform of pension regulation was a serious issue, as evidenced by the launch of review efforts in several jurisdictions. At the present juncture, it has become for many employers, both large and small, nothing short of crucial. As such, time is of the essence; yet we are confident the Government will continue to provide leadership on this front, and the task Professor Arthurs and his team started over two years ago will soon bear fruit.
We commend the Report for the recommendations which create an environment for introducing new types of pension plan designs and financing/risk-sharing arrangements. However, plan sponsors should have the flexibility to adopt those approaches and should not be forced into them. We are deeply concerned that the Report is punitive to Single-employer Pension Plans (SEPPs), imposing stringent requirements on these pension plans as part of a clearly articulated strategy to coerce them into joint governance and joint risk sharing. The "carrot and stick" approach, as Professor Arthurs refers to it, will not be practical for many SEPPs and will end up penalizing many employers who offer Defined Benefit (DB) pension plans. There will be many impediments to SEPPS morphing into a Muti-employer Pension Plan, a Jointly Sponsored Pension Plan (JSPP) or the newly recommended Jointly Governed Target Benefit Pension Plan (JGTBPP). We expect some of those impediments would be from the members themselves who would not see any advantage to giving up grow-in rights and/or the guarantees that exist under the current SEPP, for the sake of alleviating the plan sponsor from certain funding requirements.
From a careful reading of the Report, it is obvious that its many recommendations, if fully implemented, will create a pension landscape dominated by large jointly sponsored plans. While such plans do possess some key advantages for certain types of plan sponsors, they cannot be the only solution, and we urge the Government to create an environment in which many types of plans, both large and small, both jointly sponsored and non jointly sponsored can co-exist. As in most arenas as complex as this, one size rarely fits all.
Indeed, in a February 26, 2009 column in the National Post by Dianne Francis, rather than calling for consolidation of smaller plans into larger plans, she called for governments to "break up the biggest funds into smaller pieces to reduce risks" due to some notably jumbo pension funds which have recently made colossal errors. In addition, although our Canadian banks had for years called for the right to merge, their smaller size and more conservative regulation in Canada have proved to be a better model than the very large US and European banks and other financial institutions. While a certain level of scale can be very helpful, at some point, bigger is not always better.
The Report also implies that joint governance is the only effective governance model. It ignores the fact that many SEPPs have well developed governance structures that involve active and retired members through committees and through the collective bargaining process.
We fear that if the Report's contents are fully implemented, all or most defined benefit SEPPs will cease to exist, even though if may be the best or a better model in many situations.
It has been well documented that occupationally established DB plans are socially desirable as they provide for a layer of social welfare security that is efficient and rarely cost taxpayers any hard dollars. The Report clearly states that the DB landscape has been rapidly changing over the last two decades and that the regulatory framework has either not responded at all, or responded to these changes in a piecemeal fashion. It is our belief that the Province has the opportunity to look at Ontario's pension system in totality and make the right changes to reinvigorate the DB plan.
To guide this process, we encourage the Province to establish its own set of underlying principles that are loosely based on those of the Commission which, though fundamentally sound, are overly ambitious. Trying to be all things to all stakeholders is unrealistic. We encourage the Province to focus directly on the key mandate of the "funding of defined benefit pension plans in Ontario, the rules relating to pension deficits and surpluses, and other issues relating to the security, viability and sustainability of the pension system".
We encourage the Province to focus primarily on the first main Guiding Principle, to "maintain and encourage defined benefit plans". We also believe that we should not lose sight of the voluntary nature of our system. Indeed, the Province should create a pension infrastructure that is fair and encourages the forces of the labour market to voluntarily implement DB plans—ones that can meet the needs of all stakeholders, ones that allow employers flexibility to make their own choices, whether that be as individual employers in a SEPP or in the JGTBPP model.
As such, we believe in an environment that balances the rights and obligations of all stakeholders—plan members, pensioners, plan sponsors and the public, as stated in the Report's fifth Guiding Principle. Ideally, it is an environment that is consistent nation-wide but, as the Report stated, that is out of the Province's control. However, we fully advocate the Commission's recommendation that the Province do what it can to move to a model that is nationally harmonized. In this light, we would urge the Government to carefully consider, in addition to the Report, the many excellent recommendations made in the recently released Albert and British Columbia Report of the Joint Expert Panel on Pension Standards (ABC JEPP Report).
We would like to comment on what has brought us to this point. Despite generally favourable comparisons with other global jurisdictions (and particularly the US and the UK), the decline in Ontario's pension coverage has been dramatic over the years. Were it not for the levels of coverage in the public sector, Ontario's pension coverage decline would have been even steeper. It can be argued that this was the result of a confluence of economic and legal events that shifted the previous balance of various stakeholders to one that is heavily in favour of plan members and away from plan sponsors and the general public. If there is one overarching theme that the Province must prioritize, it is to "re-level" the playing field, since pension coverage will not improve until plan sponsors are given the necessary incentives to do so.
This arguably is the area that is drawing the most attention from all stakeholders. The task is truly to strike a "fine balance" between sponsor and plan member interests. On the one hand, the system should require that employers ensure the financial stability of the plans they sponsor and fulfill their promise of future pensions while, on the other hand, the system should not make funding so onerous as to discourage organizations from starting or continuing sponsorship of DB plans. The obligation to fund under any model of governance should go hand in hand with the "pension deal"; the entity that takes the risks of the pension deal, should be entitled to the benefits of those risks.
Globally, there has been a movement to marking pension assets and liabilities to market. Indeed, many commentators have opined that the implementation of Financial Accounting Standard 157 (FAS 157) in the U.S., also known as the "mark-to-market" accounting rule implemented in late 2007 was a critical ingredient in creating the banking system's vulnerable state that made it susceptible to a major breakdown. That is, accounting and funding regimes have, for all intents and purposes, focused on the narrow issue of plan solvency while ignoring the inherently long-term purpose and nature of pensions. Clearly, solvency must be ensured, but at the same time recognizing that certain liabilities are not payable for many years. The conundrum is for the rules to balance these two often opposing concepts.
We are not in favour of mark-to-market valuation concepts, such as the elimination of smoothing techniques, which have traditionally been an accepted method to actuarially recognize the long-term nature of pension plans, and have served the pension industry well. Indeed, as so clearly stated by Professor Arthurs in Chapter Four of his Report: "There are good reasons for smoothing. It acknowledges the long-term nature of the obligation and avoids contributions being subjected to sudden and extreme changes". Therefore, while we are strongly opposed to recommendations that would eliminate this ability to smooth assets over a reasonable period of time, we are in favour of congruent asset and liability smoothing (as is presently required) as well as a standard to maintain the particular smoothing technique selected over a minimum period of time, such as five years, to avoid cherry-picking. In addition, it is still important to measure and report on solvency or wind up on an unsmoothed basis for transparency and disclosure. Professor Arthurs even succinctly stated in Chapter 4 that: the pension promise is made over decades; factors that determine pension promises are constantly changing; the cost of paying for them is highly volatile
But accounting rules, mark-to-market, increasing volatility, and the impact on company balance sheets have affected plan sponsors to a great extent, and discouraged DB plans. So we are somewhat perplexed when Professor Arthurs recommends eliminating the ability to smooth assets (and liabilities) in a solvency valuation. The ability to smooth for purposes of solvency funding is particularly evident in a crisis such as we are currently facing.
The Report essentially establishes two sets of rules—one for plans that have a jointly-sponsored structure and one for those that do not—with the jointly-sponsored plans being afforded greater flexibility. However, the harsh treatment afforded to DB SEPPs in the report will violate an important principle that is, creating a voluntary environment that encourages the formation and maintenance of DB plans. In fact, we believe the DB SEPP treatment would do the opposite and move our system to one that is polarized between those employers who may reluctantly move to a jointly-sponsored plan, if available to them, and those who will abandon DB plans altogether.
This state of affairs would resemble the current situation in which DB plan sponsors are persistently moving to Defined Contribution (DC) or other money-purchase plans due to the current regulatory environment.
We agree that some different rules would be appropriate for DB SEPPs versus JGTBPPs.
For MEPPs and JSPPs, we are in general agreement with the direction of the Report. That is, these plans are unique, should be governed differently, and should be subject to more flexible funding rules. Therefore, we support Recommendations 4–8 to 4–12.
For DB SEPPs, we believe in the general principle in which benefit security is paramount, together with an environment in which plan sponsors are willing and able to fund the plan so as to increase benefit security. Inherent to this ideal, we believe a new construct known as a Pension Security Trust or Fund (PSF) (as first suggested by the Canadian Institute of Actuaries and endorsed in the ABC JEPP Report) needs to be introduced—a separate sub-trust that would hold solvency contributions made above and beyond going concern requirements, where the plan sponsor would have clear entitlement to these assets should they be in excess of the requirements of a fully solvent plan, including some allowance for margin. Using this new vehicle, plan sponsors will be much more amenable to funding at a level to guarantee benefit security, in the knowledge that if those assets should prove to be excessive to secure the promise, they would have access to those over-contributions either on an ongoing basis or in a wind up situation. The "pension deal" from the sponsor's perspective is typically to provide a benefit promise to plan participants, not a right to all of the assets in the fund. We are also in favour of permitting solvency contribution requirements that can be foregone provided the plan sponsor either secures a letter of credit (as discussed in Recommendation 4–22) or pledges assets in lieu of funding (as discussed in Recommendation 4–23).
One exception to this principle of benefit security, in our view, is the indexation benefit for purposes of solvency funding as described in the second section below.
There are several Recommendations in the Report that we can support, such as:
However, we cannot support the following Recommendations:
Many of the pension arrangements covering Ontario workers were established many years ago when the Ontario economy and employment trends were in very different circumstances. Similarly, the pension rules were also established at a time when current economic realities were not contemplated. The Report identifies two main shortcomings in the current system that hinder the ability of DB plans to adapt to current conditions:
In general, we accept many of the Commission's recommendations in modernizing the system to address these two key shortcomings. As described in the Report, the current system of transaction approval is far too lengthy and cumbersome. While we agree with Recommendation 5–1 to look into the causes of the delays associated with transaction approvals, we think this should go further and look for ways to either provide more discretion in the hands of the regulatory staff to rule on certain issues and/or make the process more prescriptive so that the need for meticulous regulatory review is reduced or eliminated.
Another key recommendation is the establishment of the Ontario Pension Agency (OPA) to "receive, pool, administer, invest and disburse stranded pensions in an efficient manner" (Recommendation 5–2).In essence, the OPA would provide greater portability for workers who voluntarily or involuntarily move from one employer to another and a mechanism for plans to transfer assets and liabilities for those former members who cannot be found by the plan administrator.
While we support the concept of a vehicle to help beneficiaries locate their stranded pensions accumulated over their working lives, and allowing other beneficiaries to consolidate their various small pensions in one place (to potentially increase faster than would otherwise be the case), the benefits of such a new vehicle would be small in comparison to the cost (in time and resources) of setting up the OPA to fulfill this function. In fact, we believe individual members currently have sufficient options; (1) they can remain deferred members if they do not want to annuitize or port out their benefits and maintain a defined benefit in the plan where they earned the benefits; (2) they can choose portability and invest the assets at their discretion, allowing them to consolidate their pensions from different plans; or (3) they can annuitize if they do not want to keep track of an unwieldy string of deferred pensions in numerous plans. However, we do support use of the OPA to hold and administer funds for members that cannot be located because this would help plans reduce administrative costs. On plan wind-up, sponsors and administrators would be able to close the pension fund more quickly. Alternatively, the Government should consider allowing the value of stranded pensions to be transferred to the Office of the Public Guardian and Trustee, as is currently permitted in several provinces. This solution would be far less costly, and administratively simpler than setting up the OPA since the public trustee framework already exists. If the government does proceed with the OPA to provide benefits more generally for former members of DB plans, we are opposed to the benefits being held on a DB basis, since it would be extremely costly and administratively cumbersome to manage such benefits from literally thousands of different pension plans, all with different benefit structures. If the OPA is eventually created (whether only for stranded pensions, or for all former members of DB plans), we believe it should only hold the assets for these members on a DC basis, with the monies invested in fixed income securities to closely match the benefit promises.
To promote portability, the Commission recommends that plans have a policy to accept transfers in of assets from other DB plans and convert them into past service credits under the importing plan (Recommendation 5–3). In addition, all plans would be required to document the process for transferring in past service and disclose this process to members looking to transfer in past service (Recommendation 5–4). We support this concept, as it promotes even-handedness and transparency and helps ensure members have a good understanding of their options. However, we would welcome guidance to ensure uniformity of such transfer practices. We also oppose any legislation that would require a plan sponsor to accept such transfers, as this would greatly increase administrative costs for plan sponsors if such credits much be accepted on a DB basis.
One of the most cumbersome processes affecting Ontario registered pension plans today is the wind-up, whether full or partial. Besides being a laborious process as a result of existing legislation and regulatory requirements, it is often very expensive, accordingly constituting another disincentive to offering DB plans. As wind-ups are complex transactions with many moving parts, the Commission has attempted to address this through a series of recommendations.
We were encouraged that the Commission formulated various recommendations attempting to address the contentious issue of pension plan surplus, namely:
Recommendation 4–16 provides little more than the current process for resolving disputes involving surplus ownership which, in our view, should be tied to the "pension deal" and who carries the risk. We are supportive of reducing the amount of litigation in surplus situations as contemplated in this recommendation. Surplus ownership should be based on an agreement made by the parties to the "pension deal" as recommended by the Canadian Institute of Actuaries several years ago, with new provisions enacted to override recent case law and establish a clear entitlement to surplus based on contractual provisions. Alternatively, we would suggest the Government study the surplus recommendations in the ABC JEPP Report which we would support.
We support several of the Report's recommendations with respect to "at risk" plans (identified in Recommendation 6-1), such as the prohibition on implementing plan improvements, payment of pre-existing benefits in place for over five years in full upon plan failure, priority to unpaid current service costs, replacing the plan administrator involved in insolvency proceedings, seeking the right to intervene in federal bankruptcy proceedings on behalf of plan members, establishing a long-term approach to the PBGF and pursuing national harmonization in these areas (see Recommendations 6-4, 6-5, 6-7 and 6-9 to 6-19).
In Recommendations 6-1 to 6-3, the criteria for identifying plans that are "at risk of failure" would have to be carefully established, and we encourage the Government to seek stakeholder input in establishing these criteria. The requirement for active and retired plan member consent separately to reset funding or authorize additional forms of security could prove impractical in that retired members would have little if any incentive to provide such approval. This factor would in turn compound the difficulty in securing a two-thirds majority for these measures. The Government should also ensure that there are no conflicts of interest for actuaries and auditors that are called in to review reports for "at risk" firms under Recommendation 6-1.
Similarly, with respect to Recommendation 6-6, empowering the Regulator to create an office of compliance to deal with violations of the Act that imperil plan security, we fail to appreciate the utility of creating an on-line register of delinquent plan sponsors. In addition, how would such a register deal with cases involving an employer that is current with respect to its contribution for several plans, but delinquent on one? If the Government does proceed with this proposal, we encourage it to seek input with respect to the regulatory steps that would be taken before "naming names" on-line.
We are in agreement with Recommendations 7-1 and 7-2, and believe that codification would help eliminate the current need to resort to other laws (e.g., traditional trust law principles) to interpret pension issues. While supportive of the Commission's objectives as articulated in Recommendations 7-7 to 7-13, we also believe that time and resources will require prioritization and encourage the Government to focus at first on initiatives designed to enhance regulatory clarity and the dissemination of information to stakeholders (Recommendations 7-9, 7-10 and 7-13). Less emphasis should therefore be placed on efforts to enhance the regulator's research capacities.
We support several of the Report's recommendations (see 8-1 to 8-5 and 8-28 to 8-30) for establishing benchmarks or performance indicators covering a range of governance issues, collecting and publicly disseminating such data, and encouraging retirees and unions to participate more fully in plan governance. However, despite accepting the need to better define a set of best practices addressing specific fiduciary concepts and to standardize policies around improved disclosure generally, we are concerned that all stakeholders will be able to access and utilize this information. We urge the government to dedicate the necessary resources and allow for full stakeholder participation in the building of this information infrastructure in Recommendations 8-7 and 8-18 to 8-23.
Under Recommendations 8-11 to 8-14, we accept that governance structures and practices should be generally improved, but we are concerned with what we would consider significant potential for unintended consequences – e.g. unnecessary bureaucracy – that could flow from such a comprehensive revamping of the governance structure. In particular, for Recommendation 8-13, we concur with the concept of clarifying fiduciary roles but we are concerned that it is too invasive in urging the pension regulator and Pension Champion to intervene in delegations and corresponding contractual arrangements.
We feel that the filing and certification requirements contained in Recommendations 8-15 to 8-17 imply a standard that would be impractical to implement. Similarly, due to the additional burden imposed on non-jointly sponsored plans, we cannot support the requirements set out in Recommendations 8-24 to 8-26 that such plans without retiree representation on their governing body establish a Pension Advisory Committee (PAC). We believe that the PAC moves Ontario too close to the Quebec Pension Committee model, which has not been particularly successful, and has added to the administrative burden and expense of Quebec SEPPs. Alternatively, we suggest that the PAC may flow from best practices, as they are established, and the existing governing body for the plan should actively promote the formation of PACs. We strongly oppose that part of Recommendation 8-2 that would accord plans with joint governing structures a greater margin of regulatory discretion than plans without such structures since it assumes that such governing structures are inherently superior. Similarly, we disagree that only jointly governed plans have the capacity to make complex investment decisions and as such oppose the circumscribed application of the exemption from the "30 per cent investment rule" outlined in Recommendation 8-8. Under Recommendation 8-9, we believe that bullets 1 and 3 are sufficient to address conflicts of interest, without the need to provide representation on the plan's highest decision-making body. In many cases, the plan's highest decision-making body is the Board of Directors, or a delegation of the Board of Directors.
Finally, the Report's unacceptable bias in favour of large, jointly governed plans to the exclusion of other plan types is reflected in Recommendation 8-27 which allows SEPPs to enter into agreements with unions or member representatives to establish a jointly governed target benefit plan. We believe that a plan which is collectively bargained with the employer should have an equal opportunity to establish a target benefit with the buy-in of the union without moving to a full jointly governed structure. Our concerns are elaborated upon more directly in the following Section, Innovation in Plan Design.
As practitioners in the pension arena, we welcome Recommendation 9-1 and the challenge of being innovative in designing plans that will balance the needs of all stakeholders. However, it is clear throughout the Report that the Commission has a bias toward large, jointly sponsored plans. In fact, much of the Report is devoted to creating a fine balance with respect to such plans. We agree that in many instances, bigger can be better. Large plans benefit from economies of scale. Portability of pensions from one employer to the next in the same jointly governed plan is another advantage. We are also in favour of joint-sponsorship and the funding flexibility and governance that this structure could afford sponsors of these plans.
However, we do not believe this is the only model of plan governance that could work under a new legislated environment, and are concerned about those plans that cannot be easily accommodated within a jointly sponsored environment. There are many situations in Ontario due to legacy arrangements in which joint sponsorship is neither feasible nor desirable and simply excluding such plans from the Report's many sound recommendations is simply unfair or untenable. Professor Arthurs has opined that many DB SEPPs will convert to the new JGTBPP model; however, since that is simply not practical in most cases, many of them will convert to DC or simply wind up, at even greater than current rates. Some plans are mired in situations that involve numerous unions and trying to get them all to convene with the same agenda is often challenging, if not impossible. There needs to be some consideration afforded to these types of arrangements as they are a vital part of the pension fabric in Ontario.
Similarly, the Report pays too little attention to the needs of small plan sponsors. Yes, we can create large plans through which many small employers will be able to secure the benefits of large jointly-sponsored plans. However, many will hesitate before joining out of fear of losing too much control. The design of these plans will not always be ideal for all sponsors, and plan members may not be pleased with the pre-determined benefit design and loss of benefit security they would otherwise have with a SEPP
To foster innovation solely for the benefit of large plans is the wrong approach and militates against the creation of a balanced environment in which all types of plans, both large and small, can operate and thrive. This frankly, flies in the face of creating a pension environment in Ontario that is voluntary and supportive of DB plans for all. As such, we do not support Recommendation 9–2, unless pension policy and legislation facilitate the growth and operation of all plans. We are in favour of the suggested target benefit plans (Recommendation 9–3). We believe they can provide the right environment for all stakeholders who are willing to accept the risks of such a model and represent a solution for groups willing to assume the onerous responsibility of a jointly sponsored plan. But as we mentioned above, such a model may not always be acceptable to all parties (since the membership may not wish to take on the risks and responsibilities) and to assume that this is the only path to achieve "A Fine Balance" is too simplistic and unrealistic.
We do not support Recommendation 9-4 in respect of expansion of the CPP, as the CPP and OAS together already provide a reasonable level of replacement income for those at the lower end of the income scale, and the partially funded model of the CPP may not work on a larger scale. Furthermore, the concentration of capital under the government's control for investment could cause serious concerns.
The alternative, a large-scale provincial pension plan might be feasible, but we suggest that the Government explore this option with other jurisdictions, such as the ABC Plan contemplated in the ABC JEPP Report to ensure the plan design has the right features (such as auto-enrollment) and is possibly harmonized across the country. Such a plan would not be run by the government, but governed by experts in the pension industry, and administration and custodianship would be at arm's length from the government. In general, the design of such a plan should be simple, and expenses should be as low as possible.
In addition, there are some high-quality ideas being generated in other jurisdictions that may have some valuable applications in Ontario. We believe that structured and regular meetings with other provincial regulators should become mandatory so that such thought-leadership can be shared. Finally, one of the biggest problems in Canada is that several multi-jurisdictional issues cannot easily be solved due to the existence of discordant provincial regulations. To this end, we strongly support Recommendation 9-5 and urge the Province to take a leadership role in establishing a national pension summit to help expand pension coverage. Ontario should also take a lead in encouraging harmonization of legislation in all jurisdictions. As part of this process, Ontario should study the ABC JEPP Report, the final report of the Nova Scotia Pension Review Panel, and the forthcoming federal government review. Carefully studying and considering the recommendations of all jurisdictions and picking "the best of the best" could result in much improved pension legislation. Any resulting statute should have expanding pension coverage as a primary focus.
At Hewitt Associates, we believe the pension environment is at a crossroads in Ontario. The Commission was mandated to forge a path a better system for pensions in Ontario. While there are many excellent recommendations that could be incorporated as steps along the way, we believe the Report gives too much credence to the notion that large jointly sponsored plans deserve special favour, to the detriment of those that will not or cannot transition into such a state.
As a result of the Commission's work, we have the opportunity to step back and make the necessary changes to the current system to reinvigorate the DB pension plan. But the changes need to be bold and they need to rebalance the playing field. We urge the Province not to settle for minor tweaking, but rather to make the tough choices and establish a system where sponsors are willing and able to offer DB plans again without jeopardizing the security of the pension promise. In doing so, we also urge the Province to use the Report as a good starting point but to consider our various suggestions to create a more balanced approach; an approach that rewards prudent behaviour; an approach that allows for flexibility in the system; an approach that maintains its voluntary nature; and an approach that allows pension plan stakeholders to determine the best retirement program for each situation.