Pension Plan De-Risking (Part I) – What Trends do we See in Canada?

An increasing number of public and private sector employers around the world are either abandoning the traditional defined benefit (DB) pension plan model in favour of more affordable and sustainable alternative arrangements, or are doing away with their employer sponsored retirement plans altogether. In the private sector, such action often requires country subsidiaries and affiliates of large multinationals to adopt head office’s global pension strategies which can include a broad spectrum of investment and plan design options, in addition to traditional plan termination.

Canada is no exception to this global trend. Even among Canadian employers, the search to find suitable ways to de-risk volatile DB pension obligations is becoming a more common strategic corporate priority.

This is the first post in a two-part series where I examine pension plan de-risking in Canada.

Many consider the Dutch model based on risk sharing and target benefits to be worth pursuing, subject to appropriate enabling legislation. In fact, one Canadian pension jurisdiction – New Brunswick – has recently passed such legislation which is intended to provide both public and private sector employers with a framework to establish shared risk plans, as well as to convert existing DB plans to shared risk arrangements, for both non-union and unionized workforces.

Another jurisdiction (Quebec) is in the process of finalizing legislation that will enable target benefit plans to be implemented, but only for the pulp and paper sector. In Ontario, Nova Scotia, British Columbia and Alberta, regulations enabling target benefit plans have yet to be passed, but the legislative framework in Ontario and Nova Scotia currently only permits implementation of such plans in unionized workplaces.

Canadian employers are also taking notice of the number of recent lump sum transfer and annuity ‘buy-out’ programs being initiated in the UK and the US to remove the impact of all or a portion of former employee DB pension liabilities from corporate financial statements.

Why now?

The trend away from traditional DB pension plans is not new. Employers in Canada’s private sector have been moving away from DB plans (at least for non-union employees) and into defined contribution (DC) type plans for well over a decade. One of the most common reasons for this trend is to achieve a better balancing of risk between the employer/sponsor which traditionally bears most of the benefit funding risk, and plan members who bear most of the benefit security risk. These often polarized risks remain an industry-wide concern.

Over the last few years DB plan funded ratios have reached unprecedented lows, primarily due to:

  • prolonged periods of low long-term interest rates;
  • volatile investment returns below expected results;
  • increases in mortality risk due to longer retiree life expectancies; and
  • greater than expected unreduced and partially subsidized early retirement pensions.

Over 95% of Canadian pension plans had a solvency deficiency at the end of March 2013 and the median solvency ratio among a large sample of DB plans was 74%, according to an April 2013 press release from Aon Hewitt.

In addition to increased cash funding and benefit security concerns, changes to accounting rules have resulted in DB plan obligations having a more direct impact on employer balance sheets. Many Canadian jurisdictions have attempted to ease these funding issues through temporary relief measures, however, such measures have not been enough for many employers who continue to look for additional ways to reduce or eliminate the financial risks associated with their DB plans.

Next week, in Part II of this series, I will consider the pension plan de-risking options available to DB sponsors and administrators and some of the legal issues which may arise.

This blog post was adapted from an article Ian McSweeney prepared for Financier Worldwide magazine. The full article will appear in the May 2013 issue of Financier Worldwide magazine. © 2013 Financier Worldwide.

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Jana Steele

Partner, Pensions & Benefits

Julien Ranger

Partner, Pensions & Benefits