Low interest rates
and heavy investment losses are putting defined-benefit pension plans in jeopardy, says a new report from the Association of Canadian Pension Management. Coverage of these plans, which guarantee a benefit related to earnings and years of service, may continue a downward slide unless governments make some major changes in the rules, the ACPM warns.

As a result of economic factors, many of these plans are now underfunded and plan sponsors are having to pay to make up the shortfalls. This means more employers are switching to defined-contribution plans and group RRSPs in which no particular pension is guaranteed. But it’s not too late to reverse the trend and bring DB pension plans “back from the brink,” notes the report.

It recommends a wide range of changes common in the years when markets were booming — in particular, giving pension plan sponsors access to pension fund surpluses.
This recommendation is not likely to find favour with the labour movement. But according to the ACPM, which represents pension plan sponsors and their professional advisors, the fact that plan sponsors often have to make up funding shortfalls but are prevented from accessing excess funds means they resort to minimum funding strategies that put benefit security at risk.

As for benefits being at risk, the ACPM is opposed to the idea advocated by the Canadian Labour Congress that a national pension-benefit guarantee fund be established to guarantee, within limits, the pensions promised by insolvent companies. Ontario and the U.S. have such funds, and Britain recently created a similar body. But, the ACPM believes, such insurance schemes do not work well. Guarantee funds are “a poor substitute for proper funding,” it says. They are a “second-best” solution and should be avoided.

According to the ACPM, “Poor pension funding has been a significant factor in the [in]ability of several high-profile companies to carry on business, playing a material role in the bankruptcy or near-bankruptcy of Algoma Steel [Inc.], Stelco [Inc.] and Air Canada, for example.”

The ACPM wants governments to review current funding rules for DB pension plans and “to remove the barriers to rational plan funding.”

Paul Litner, a partner in the pension and benefits department of law firm Osler Hoskin & Harcourt LLP in Toronto and chairman of the ACPM’s funding issues task force, which produced the report, believes if plan sponsors had clear access to surplus funds they would be encouraged to overfund their pension plans and they would be more confident about offering DB plans to their employees.

Current Income Tax Act rules require a pension plan sponsor to stop contributing to the plan if the surplus exceeds a certain limit — generally about 10% of the plan’s liabilities.
The ACPM says the limit should be removed or at least made more flexible. It also wants pension plans treated as simple contracts rather than as trusts, as courts adjudicating surplus ownership cases have ruled.

“Let the parties make their own deal over time,” says Litner, “and not be constrained by language in some agreement from 40 years ago.”

Governments should pass legislation overriding common-law trust precedents and establishing the paramountcy of contract law for pension plans, says the ACPM. That would allow plan sponsors more leeway in dealing with the funds.

As well, says the report, “going-concern valuations” — which measure a pension plan’s funded status assuming it will continue into the future, and which are used primarily to establish the plan’s contribution strategy — should no longer be subject to regulation.
Instead, says the report, such valuations should be left up to the plan sponsor and its actuary.

But Murray Gold, a pension lawyer and partner with Koskie Minsky LLP in Toronto, says actuaries are the weak link in the system. “They are to pension plans what accountants were to corporations before Sarbanes-Oxley [the 2002 act that changed U.S.
securities laws following a series of corporate scandals],” Gold says. He points out that actuarial houses now provide a range of human resources consulting services to companies, among them pension actuarial services to the pension fund. “They are under an enormous amount of financial pressure from their clients to act only in the corporate sponsor’s interests and not [to] be giving advice that’s in the plan’s interest,” he says.

@page_break@“We have to come to terms with the actuarial professional crisis facing pension funds in a way that’s quite similar to the way the accounting crisis faced the corporate world before Enron [Corp.],” Gold says. Unfortunately, he says, this report doesn’t address the issue.

Gold also maintains that a “false paradigm” underlies the ACPM report: it’s the view that employers are responsible for deficiencies and, therefore, they should have access to the surplus. Gold describes it as “an old canard.” The reality, he says, is that if there’s a deficiency, the employees bear a significant chunk of the risk — either in the event of an insolvency, when they bear it directly, or at the collective bargaining table when the employer may deny them a wage increase because it is paying money into the pension plan. Air Canada and Stelco are both examples of companies in which deficiency risks were borne by pension plan members, he observes.

The more appropriate paradigm has to take inflation into account, Gold says. The historical issue with regard to pension fund surpluses, he says, is that pension plan members have no rights to access the surplus unless the pension plan is wound up. “That means the plan can go on for many years earning nominal returns, and the sole beneficiary of those nominal returns is the employer,” he points out. “The basic question underlying DB plans is how to trade off inflation protection for surplus.”

The ACPM report doesn’t touch this issue, he notes.

Gold suggests the ACPM’s proposed approach would degrade the DB system, degrading funding standards without any kind of insurance scheme to make sure pension plan members get the benefits they’ve paid for throughout their working lives. “It’s a highly partisan report,” he says, “in a political environment that is quite charged and in which we see the only way to make progress is through some kind of bipartisan consensus.”

But Litner believes the ACPM’s report can be used as a foundation to start a dialogue with all interested parties on the adequacy of current DB funding rules. “It’s hard to get pensions on the legislative agenda,” he says, “but we think this is an important debate.”
IE