Consultation Paper - Pension Innovation for Canadians: The Target Benefit Plan

Note: A consultation is not a poll. Please do not send multiple or duplicate submissions.

Consultations Responses

Please note that the Department of Finance publishes consultation responses in PDF format and language of submission only.

Related Documents

Invitation for Comments

The objective of this paper is to seek views on the approach and elements of a federal TBP framework. DC and DB plan sponsors, unions, the actuarial and legal professions, and retiree groups are invited to provide comments on these proposals.

Based on the proposed TBP framework, the Government is also seeking an indication of the interest among employers and employees in this new pension plan option for federally-regulated private sector and Crown corporation pension plans. 

Submission of Comments

Written comments and an indication of your interest in TBPs as an option for federally-regulated employers and employees should be sent by June 23 via email to: pensions@fin.gc.ca.

By submitting a response to this consultation you consent that all or part of your response may become public and may be posted on the Department of Finance Website to add to the transparency and interactivity of the consultation process. Where necessary, submissions are revised or redacted to remove sensitive information. Should you post all or part of your response on your website, you consent that the Department of Finance may either post all or part of your response on its website, or provide a link directly to your website.

As the Department of Finance may wish to quote from, or summarize submissions in its public documents and post all or part of them on its website, we ask persons making submissions to clearly indicate if they wish us to keep all or part of their submission or their identity confidential. If you make a submission, please clearly indicate if you would like the Department of Finance to:

  • Withhold your identity when posting, summarizing, or quoting from your submission, or
  • Withhold all or part of your submission from its public documents.

If you wish for all or part of your submission to remain confidential, you must expressly and clearly indicate this fact when submitting your document. However, persons making submissions should be aware that once received by the Department of Finance, all submissions will be subject to the Access to Information Act and may be disclosed in accordance with its provisions.


Pension Innovation for Canadians: The Target Benefit Plan

Consultation Paper
Department of Finance Canada
April 2014

Table of Contents

Introduction
2. Summary
3. Objectives and Principles

4. Target Benefit Plan Elements

Introduction

Promoting the retirement income security of Canadians is an important goal of the Government of Canada. Canada has a sound retirement income system that is internationally recognized for its adequacy, affordability and sustainability. Private employment-related registered pension plans form an essential component of that system.

Over the past several years, the Government has taken concrete action to strengthen and modernize the legislative and regulatory framework for private pensions, including by implementing a number of changes to the Pensions Benefits Standards Act, 1985 (PBSA) and its regulations to increase pension plan member protection and promote plan sustainability.

The Government also established the federal Pooled Registered Pension Plan (PRPP) framework, which will provide professionally-administered, defined contribution pension plans targeted to employees and self-employed persons who do not have access to a workplace pension plan. PRPPs will pool the funds in the accounts of participating employees and self-employed persons to achieve low costs in relation to investment management and plan administration. PRPPs are intended to have design features which will remove traditional barriers that might have kept small- and medium-sized businesses from offering workplace pension plans to their employees in the past.

This paper presents proposals to incorporate into the PBSA provisions for Target Benefit Pension Plans (TBPs) that would be available to federally-regulated pension plans. The framework would allow the conversion of DB and defined contribution (DC) plans into TBPs, for both single-employer and multi-employer federally-regulated private sector pension and Crown corporation plans subject to the PBSA. The model would be available to new federally-regulated plans as well. TBPs would retain a number of the attractive features of DB plans, such as a strong level of benefit security and predictability and the pooling of longevity risks, while introducing a degree of flexibility in the plan design that would enhance plan sustainability.

The objective of this paper is to seek views on the approach and elements of a federal TBP framework. DC and DB plan sponsors, unions, the actuarial and legal professions, and retiree groups are invited to provide comments on these proposals.

Interest in TBPs among employers and employees

Based on the proposed TBP framework, the Government is also seeking an indication of the interest among employers and employees in this new pension plan option for federally-regulated private sector and Crown corporation pension plans. 

Plan sponsors that currently have a federally-regulated DB or DC plan are invited to indicate the following:

  1. Should TBPs be an option available to employers and employees of federally-regulated DB or DC plans?
  2. Would you consider converting your federally-regulated DB or DC plan to a TBP plan if this option was available?  Why or why not? 

Employers and employees without a pension plan are invited to indicate the following:

  1. Should TBPs be an option available to federally-regulated employers and employees?
  2. Would you consider establishing a TBP for your employees if this option was available?  Why or why not? 

Submission of comments

Written comments and an indication of your interest in TBPs as an option for federally-regulated employers and employees should be sent by June 23 via email to: pensions@fin.gc.ca.

By submitting a response to this consultation you consent that all or part of your response may become public and may be posted on the Department of Finance Website to add to the transparency and interactivity of the consultation process. Where necessary, submissions are revised or redacted to remove sensitive information. Should you post all or part of your response on your website, you consent that the Department of Finance may either post all or part of your response on its website, or provide a link directly to your website.

As the Department of Finance may wish to quote from, or summarize submissions in its public documents and post all or part of them on its website, we ask persons making submissions to clearly indicate if they wish us to keep all or part of their submission or their identity confidential. If you make a submission, please clearly indicate if you would like the Department of Finance to:

  • Withhold your identity when posting, summarizing, or quoting from your submission, or
  • Withhold all or part of your submission from its public documents.

If you wish for all or part of your submission to remain confidential, you must expressly and clearly indicate this fact when submitting your document. However, persons making submissions should be aware that once received by the Department of Finance, all submissions will be subject to the Access to Information Act and may be disclosed in accordance with its provisions.

2. Summary

DB pension plans are an important component of Canada’s pension framework that provide pension income predictability and security to plan members and an important part of overall employment compensation for many Canadians. Some federally-regulated DB pension plans have, however, been facing funding challenges in recent years due to the negative financial impact of a combination of factors including a period of protracted low interest rates, volatile pension fund investment performance and increasing longevity. To help promote pension plan sustainability, and to continue to improve overall pension coverage and adequacy for Canadians, the Government is proposing an innovative plan design for federally-regulated private sector and Crown corporation pension plans that can adapt well to different economic and other circumstances so that it is sustainable in the long term.

The design and development of a federal legislative framework for TBPs would be guided by a set of broad objectives and principles: pension sustainability, benefit security, transparency and equity.

The Government is proposing to incorporate under the PBSA provisions for TBPs applicable to federally-regulated pension plans. These provisions would be open to new federally-regulated plans or existing DC or DB federally-regulated plans where the parties would agree to convert to a TBP. The legislative and regulatory framework for TBPs would include:

  • A governance framework including the requirement for a Board of Trustees or similar body and a governance policy providing for the participation of plan members and beneficiaries;
  • A funding policy, based on either:
    • a going-concern funding requirement with a Provision for Adverse Deviation (PfAD)  that is a simple metric; or
    •  a probabilistic approach;
  • A contribution model based on either fixed or variable contributions to be established in the plan text. If the variable model is chosen, the variability would be capped;
  • Two classes of benefits with a varying level of benefit protection:
    • base benefits could be reduced in cases where a funding deficit arises, but would have a high level of protection and would only be reduced as a last resort; and 
    • ancillary benefits would have a lower but reasonable level of protection and would be reduced before base benefits were reduced and could also be increased when the plan is in a surplus situation. 
  • A funding deficit recovery plan, incorporating: the trigger for deficit recovery measures; timelines for implementing the measures; the description of all possible measures and order of priority; the minimum funding level to be reached through the measures; and the approval process;
  • A surplus utilization plan, incorporating the trigger for surplus utilization measures, timelines for implementing the measures; the description of all possible measures and order of priority; any cap on surplus utilization; and the approval process;
  • Disclosure provisions including requirements for the plan administrator to provide information to the plan sponsor, members and retirees upon enrolment, during membership, in the event of membership termination or death, and in the event of plan termination and wind-up; and
  • Termination provisions ensuring that federally-regulated DB plans under the PBSA do not seek to convert to a TBP so as to terminate under federal TBP rules and avoid DB solvency funding requirements upon wind-up.

3. Objectives and Principles

The design and development of a federal legislative framework for TBPs will be guided by a set of broad objectives and principles. 

3.1 Objectives

1. Pension Sustainability

A key objective is to design a pension model that can adapt well to different circumstances so that it is sustainable in the long term. The following key characteristics are important in promoting long term pension sustainability:

  • The pension plan must offer an acceptable range of costs to plan sponsors and members over the long term. 
  • There must be effective risk management procedures in place.

2. Benefit Security

Another key objective is to develop a model that is focused on providing a reasonable level of benefit security for plan members and retirees so that the pension plan delivers on its pension promise. In this regard, the following aspects should be taken into account:

  • The pension plan must provide a reasonably secure benefit for plan members and retirees through both favorable and adverse circumstances.
  • The pension plan must include an integrated package of benefits, contributions, investments and funding policy developed and agreed upon by all relevant parties. 

3.2 Guiding Principles

The following principles will serve as a guide in achieving the overarching objectives for developing TBPs.  

1. Transparency

An open and transparent approach to designing and communicating the various elements of the TBP is critical to the successful implementation of this new pension model. 

  • The pension plan goals and risks must be clearly stated up-front.
  • The pension plan documents must state who shares in the risks and rewards and how they are shared.
  • The plan parties’ rights and obligations must be clearly set out.

2. Equity

The pension model should promote intergenerational equity. For example, if the costs for providing retiree benefits were not adequately valued, younger and future generations may be forced to bear this excess burden through higher contributions in order to pay for the retirees’ ongoing pensions. In this regard, the following aspects are important in the design of TBPs:

  • The pension plan should be equitably designed so that no undue transfers are made to one generation at the expense of another. No generation should be unduly subsidizing another.
  • All generations of members should be treated consistently.     

The following sections of this paper outline proposals for a TBP framework for federally-regulated private sector and Crown corporation pension plans subject to the PBSA.

4. Target Benefit Plan Elements

4.1 Administration and Governance

The federal TBP governance framework should be designed so that there will be a high level of assurance of compliance with laws, regulations and the terms of the plan text. Moreover, decision-making should reflect the risk sharing goals and that employers, members and retirees all have separate interests that need to be effectively represented.

Considerations

A number of considerations should be reflected in the choice of a federal TBP governance framework:

Duty to plan parties: The administrative body of the TBP should have the capacity to make decisions in the interest of the employer, plan members and retirees. The risk that plan administrators find themselves in a conflict of interest situation should be minimized.

Representation: The extent to which the federal governance structure of TBPs would differ from those of federally-regulated DB plans will depend on the allocation of risks between the parties. Given the shared risk nature of TBPs, all parties that bear the risks under the plan (including active members, retirees and other beneficiaries) should participate in the governance.

Regulatory flexibility: The importance and role of the administrative body will depend on the extent to which the TBP legislative and regulatory provisions are prescriptive. A flexible federal regulatory framework allowing for discretion in important decisions in respect of the plan would require a framework that sets out clearly the responsibilities of the governance body and the accountability mechanisms.

Effective decision making: The administrative body should be capable of making decisions in a timely manner, avoid any deadlocks and have adequate mechanisms at its disposal to resolve any differences or disputes.

Unionized environment: Given that some aspects of a federal TBP governance framework may be negotiated as part of a collective agreement, the interest of retirees and other plan beneficiaries who are not involved in the collective bargaining process would need to be adequately protected.

Proposed Approach

The approach proposed for the federal TBP governance framework is a joint governance structure that would involve the participation of the employer(s)/sponsor(s), active members, retired members, other plan beneficiaries and allow for independent participants (e.g., pension experts or professionals).

Governance policy

Federally-regulated TBPs would be required in federal legislation to develop a governance policy. The plan sponsor would be required to inform plan members and other beneficiaries about the policy, which would be made available to them upon request. The federal legislative provisions would set out that the governance policy would be a stand-alone document or part of the plan text.

Among other things, the policy would set out:

  • the composition of the governance body (board of trustees or similar body), including its size and the level of representation from each party;
  • the process for appointing (and removing) administrators (i.e., members of the governance body), including the chair, and the duration of their terms;
  • the voting process and rules (e.g., required majority), including how deadlocks are broken;
  • a detailed description of the roles and responsibilities of administrators;
  • the composition and functions of Board committees, if any;
  • the skill set required from a certain number of members on the Board (e.g. investment, actuarial, etc.);
  • conflict of interest rules;
  • an administrator code of conduct;
  • disclosure requirements in addition to those set out in regulations; and
  • remuneration and expense policy for administrators.

Nature and composition of the administrative body

Federally-regulated TBPs would be administered by a board of trustees or similar body with a fiduciary duty to the plan. The federal legislation would require that the plan members (both unionized and non-unionized), retirees and other beneficiaries be represented and have voting rights on the board. Plan sponsors could be represented on the Board, although this would not be an obligation. The level of representation of each party would be negotiated. The board of trustees could also include external representatives, such as pension experts, professionals or representatives of another union, which may be voting members or observers.

Decision-making rules would need to ensure that none of the parties has a disproportionate power or influence within the Board. A person would not be allowed to be appointed as administrator if they were to find themselves in a conflict of interest between their responsibilities as a trustee and their other responsibilities.

The Superintendent of Financial Institutions would have the power to remove an unfit administrator as is currently the case under the PBSA. All PBSA requirements applicable to the “administrator” would apply to the board of trustees as a whole.

Role of the Board of Trustees

As it is currently the case under the PBSA, the role of the Board of Trustees for federally-regulated TBPs would be to administer the plan and make decisions in accordance with the relevant plan documents (plan text, benefits policy, funding policy, including deficit recovery and surplus utilization investment policy, etc.). The Board would not have the power to amend these documents, which would remain the prerogative of the employer, members and retirees. The Board could, however, recommend that amendments to plan documents be submitted for approval to the plan’s parties when appropriate. Employers would not be allowed to unilaterally amend the plan provisions. The Board would also be responsible for communications with members and the filing of required documents with the Superintendent of Financial Institutions.

The Board of Trustees would be required to act solely in the best interest of plan members. The Trustees would be allowed to delegate some of their functions to a third party, including to the plan sponsor (e.g. the calculation of benefits, communications with members and beneficiaries, disclosures, certain investment decisions, etc.).

Protection from liability

The existing provisions under the PBSA protecting the administrator of a pension plan or any of their employees or agents from liability would apply in the context of a federally-regulated TBP as well. Under these provisions, a plan administrator is released from statutory liability where they contravene the standard of care, standard for investing assets, and skill and knowledge requirements by relying in good faith on specified categories of documents prepared by certain professionals.

Questions

  • Is this governance framework appropriate for federally-regulated private sector and Crown corporation pension plans wishing to convert to a target benefit plan?
  • Should the federal legislation or regulations be prescriptive regarding the composition of the governance body (e.g., proportion of plan members and retirees, presence of independent trustees)?
  • Should the Board of Trustees have powers to amend plan documents?
  • What should be the plan member support level requirement for making substantial amendments to the plan text?
  • Should there be different governance framework provisions applicable to federally-regulated pension plans in unionized and non-unionized environments?
  • What type of process could be used for negotiating provisions of the plan with employees in federally-regulated non-unionized environments?

4.2 Funding Policy

Under TBPs, benefit levels are “targeted” rather than “defined” or “guaranteed.” In general, employer contributions and employer liability are capped or are limited to contractually required contributions. Therefore, members and retirees bear the cost of any funding shortfalls in the form of increased contributions or reduced pension benefits, but would also be entitled to any funding surpluses that may arise.  

Considerations

Funding for DB plans

Currently, all DB pension plans under the PBSA are subject to both solvency and going-concern funding rules. The solvency funding ratio provides an important measure of the financial health of the plan by indicating the plan’s capacity to meet its obligations in the event of immediate termination. Solvency funding rules require that the assets of the plan be sufficient to meet the expected cost of the promised benefits as calculated under an actuarial valuation report, based on the assumption that the plan is terminating at the time of the valuation, requiring the conversion of a periodic benefit into a lump sum.In contrast, going concern funding rules are based on the assumption that the plan is continuing but not accruing new benefits or accepting new members.

Benefit protection

It is important to ensure that the federal TBP funding model continues to provide benefit protection to plan members and retirees while achieving stability of contributions and benefits. The funding rules should be designed to enforce a level of discipline on plan administrators to ensure that there is a high probability of delivering the target benefits.

Unique features of TBP plans

DB plans provide limited flexibility to adjust plan provisions to cope with funding shortfalls. Consequently, plan sponsors are solely responsible for funding deficits, which, if they are not capable of absorbing the costs, can lead to the termination of the plan. The federal TBP framework should provide flexibility to adjust contributions and benefits following changes in the plan’s financial situation. As outlined in the proposals presented below, federally-regulated TBPs would be required on an ongoing basis to make the adjustments to the plan parameters necessary to maintain the viability of the plan. The adjustments would need to be made on a timely basis before the plan’s funding status deteriorates to a point where it becomes unsustainable. Such mechanisms reduce the likelihood of insolvency leading to plan termination. In addition, in the event of plan termination, whether due to insolvency or other reasons, the lump sum to be paid to plan members is not a guaranteed promise, but would depend on the financial situation of the plan at that time. Consequently, solvency funding requirements, which are based on termination scenarios, do not appear necessary in the federally-regulated TBP context. Federal TBP funding rules would focus on the ongoing functioning of the plan.

Funding margin

While solvency funding requirements may not be needed, a funding requirement strictly based on the existing going concern ratio may not be sufficient to ensure that target benefits will be paid with a reasonable likelihood. It would therefore be appropriate to incorporate a margin or buffer into the going concern ratio calculation which could respond in a counter-cyclical manner to plan experiences by being built up during strong economic periods (i.e., favorable plan experiences) and drawn upon during poor economic periods (i.e., adverse plan experiences). The buffer can be designed in a manner to reflect the investment approach by basing the buffer level on the asset allocation of the pension fund (i.e., the margin would be higher if the fund holds riskier investments). 

In a research paper[1] published in January 2013, the Canadian Institute of Actuaries (CIA) provides guidance for actuaries in calculating a Provision for Adverse Deviation (PfAD) in going concern plan valuations. The PfAD represents additional funding required to build a buffer margin allowing the plan to remain adequately funded despite potential unpredicted future changes in economic or other factors. In the CIA paper, PfADs were calculated for 75 percent and 90 percent probabilities that the plan would remain fully funded on a going-concern basis at the first triennial valuation date (i.e., three year time horizon). The calculated PfADs also vary based on equity vs. bond allocation as well as plan maturity (as measured by the percentage of liabilities that are attributable to retirees currently receiving benefits vs. liabilities attributable to the future benefit of active members).

Probabilistic vs. margin approach

An alternative to an explicit requirement for a margin would be to adopt an approach which requires a primary risk management goal that provides a specific probability that the “base benefits” will not be reduced over a specified period of time and a secondary risk management goal requiring a specified percentage of “ancillary benefits” be delivered over this same period (e.g., 97.5% and 75% respectively over a 15 year period). The categorization between base and ancillary benefits is discussed in section 4.4 Benefit Structure. This “probabilistic” approach could provide plans with a certain degree of flexibility on how the plan is funded, as long as they meet the “probability test”. Such an approach would however be more complex from a plan administration standpoint as it is dependent on individual actuarial judgment. Further, there are currently no professional actuarial standards for the probability test.

Time horizon

The existing going concern funding requirements under the PBSA are based on a best estimate of the present value, at the time of valuation, of expected future cash flows. This provides a fairly limited view of the future as it only reflects accrued benefits at the time of the valuation and does not include the impact of the entry of new members in the plan (i.e., it is calculated on a “closed group” basis). An alternative approach is the going concern ratio calculation on an “open group” basis. This approach requires a future projection of the plan’s going concern ratio (e.g., 15 years out), incorporating estimates of benefit accruals, contributions and new plan members joining in the future. This approach allows, among other things, for the impact of changes in contribution rates to be taken into account in the valuation, which the current going concern valuation under the PBSA does not provide for.

Proposed Approach

It is proposed to introduce a general requirement for the plan administrator to establish a funding policy for the federally-regulated TBP, which must be submitted to the Superintendent of Financial Institutions. 

In place of solvency funding requirements, in order to reduce the likelihood of funding shortfalls, a funding test based on a going concern valuation is proposed. There are two fairly different approaches that have been adopted or proposed in Canada so far in relation to TBP funding and there are different views among pension experts and stakeholders as to which one is preferable.  The legislative and regulatory framework would be based on one of the following two funding test approaches:

  • A going-concern funding requirement with a PfAD.  The funding ratio would be calculated as follows: Assets / Going Concern liabilities +PfAD  ; or
  • A going concern funding requirement and:
    • A primary risk management goal that provides a specific probability (e.g.,90%) that the “base benefits” will not be reduced; and
    •  a secondary risk management goal that provides a % probability (e.g., 75%)  of delivery of the “ancillary benefits”

Under the first approach, the level of the PfAD applicable to each specific plan would be based on simple metrics for that particular plan, i.e., on the asset allocation of the pension fund and the degree of plan maturity. For example, in the CIA paper, the required PfAD would be 8% of liabilities for a plan with an asset mix of 60% in equities and 40% in bonds and where the proportion of liabilities attributable to pensioners and active members are 50% respectively.

Periodic valuations for disclosure purposes to plan members and the Superintendent would include the results of stress testing.

While there would be no requirement to fund the plan on a solvency basis, TBPs should still provide solvency valuations for disclosure purposes to the supervisory authority as well as plan members and retirees. 

Questions

  • Is the going concern valuation sufficient to measure and fund target benefits? 
  • Which approach should be adopted under the federal legislative and regulatory framework: the margin or the probability test?
  • Is the PfAD approach appropriate as a funding margin or should a different margin calculation be provided for or allowed (e.g., through a discount rate margin)?
  • What is the appropriate time horizon for the purposes of calculating the PfAD?
  • Should going concern valuations be required on a closed group or open group basis?
  • How frequently should valuations be required?
  • Should some of the specifics on the funding policy (e.g., PfAD rates) rely on guidance from sources such as the Canadian Institute of Actuaries (CIA) or should they be more fully prescribed in legislation or regulations?

4.3 Contributions

In the TBP environment, contributions may act as a key instrument in facilitating risk sharing. Depending on the specific model chosen, contributions for both the employer and employee may rise or fall as necessary to ensure the target benefit is being met, or deal with surplus situations. However, as noted under section 4.2 Funding Policy, employer contributions may be capped or fully limited to contractually required contributions, as set out during collective bargaining or during an equivalent process for non-unionized environments.

Section 4.11 Plan Termination and Wind-up proposes that solvency funding requirements be maintained for 5 years following conversion (see section 4.8 Conversion of Pension Plans to Target Benefit Plans) to ensure federally-regulated pension plans do not convert from a DB plan to a TBP to avoid PBSA termination and wind-up rules for DB plans. If this proposed rule is applied, the contribution rules would need to accommodate temporary solvency funding contributions from the employer during this first 5 years following conversion. Section 4.11 includes a question seeking views on this rule.

Proposed Approach

The proposed contribution model would require contributions in excess of those needed to cover normal costs of the plan. As discussed in section 4.2 Funding Policy, these excess contributions would allow for a margin to be established which would provide the plan with the ability to withstand shocks. Depending on the funding model chosen, this margin would be established either in the form of a PfAD or by requiring a minimum funded ratio threshold to be maintained and a risk management goal to be met. A minimum standard would be established under federal legislation/regulations as outlined in section 4.2.

The federal legislation would allow for increases and decreases in employee contributions. The proposed federal framework would also allow for either fixed or variable employer contributions. The specific model would be established in the plan text through negotiation.

If an employer-fixed contribution model is chosen, employee contribution increases may still occur, however this must be clearly outlined in the plan text. If employee contribution increases are included, these increases would act as the first step in adjusting for funding shortfalls. A cap on the variability level of employee contributions would need to be established.

Alternatively, the plan may also choose to include variable employer contributions. The variability in the contribution level would be determined during the collective bargaining process and employee and employer contribution variability would not necessarily need to be equal. A cap on the chosen variability level for both employer and employee must be provided. An increase in contributions would occur according to the deficit recovery and surplus utilization plans and triggers would be reflective of the funding model chosen, as outlined below. Decreases in contributions could only occur if the buffer margin is fully funded or, under the probability test approach, both the funded ratio threshold and the probability test are met.

Triggers for contribution increases would depend on the funding model chosen. If the margin approach is adopted, contribution increases would need to occur once the entire buffer margin is depleted. Increases should, however, occur before reaching that point in order to maintain the buffer and avoid benefit reductions. Under a “probability test” funding requirement, contribution increases would be required as soon as either the going concern ratio falls below 100% or the probability test is not met. The details of these actions would be determined in the deficit recovery plan. Benefit reductions would follow if the plan’s funding levels remain unable to meet the target benefit.

Temporary solvency contributions by the employer would be required to facilitate the conversion requirements which ensure solvency funding is maintained for a certain number of years following conversion of a federally-regulated DB plan to a TBP.

As indicated above, flexibility would be provided for details of the contribution model to be determined at the plan text level. However, the following details must be provided in the plan text:

  • Whether the plan operates on a employer-fixed or variable contribution schedule;
  • A schedule of employer and employee contribution rates, expressed as a percentage of payroll or as a dollar amount;
  • The range within which contribution rates could be adjusted, if a variable contribution schedule is chosen; and,
  • Triggers for adjusting contribution rates, as determined during negotiations with employees (i.e., what would trigger an increase or decrease in contributions, how these triggers would operate).

Questions

  • Is this approach to contributions for federally-regulated plan appropriate?
  • Should some of the specifics concerning contributions be determined by plan members or more fully prescribed in legislation or regulations?

4.4 Benefit Structure

Under TBPs, benefits are targeted rather than defined or guaranteed. In addition, when the sponsor and employees share risks (which could include adjustments to both contributions and benefits, the latter which affect employees only), the parties to a pension contract may prefer benefit protections to apply differently for certain types of benefits or classes of members or beneficiaries in order to balance the objectives of pension security and plan sustainability.     

Considerations

Adapts to market conditions

TBPs are generally able to adapt to market conditions because of the ability to adjust benefits in certain circumstances.  Plan administrators could be provided with the flexibility to identify if any benefits are fully guaranteed, such as accrued benefits. Permitting the full protection of certain benefits recognizes that in some circumstances, a minimum level of benefit guarantee may be preferred by all plan parties. However, the greater the unconditional guarantee on benefits, the less flexibility plans have to adapt to market conditions and the more an employer would be exposed to funding risk. 

Security of benefits

The federal TBP framework could allow for all benefits to be treated with the same level of member protection regardless of the type of benefit, or they could be divided into classes of benefits to permit plans to offer varying levels of benefit protection depending on the benefit type.  Establishing classes of benefits leads to a transparent prioritization of benefit reductions/increases when the plan is faced with a deficit/surplus, for example, a two-tier benefit structure where benefits are divided into “base benefits” and “ancillary benefits.” Base benefits include a lifetime pension at normal retirement age, past indexation, and vested ancillary benefits. The ancillary benefits include future indexing and early retirement benefits such as bridge benefits.

Categorization of benefits

An adequate benefit security would require that the largest portion of benefits, in monetary value, be categorized as base benefits and be subject to increased protection. Hence, the base benefit should normally include, at a minimum, the pension benefit payable at normal retirement age and corresponding to a percentage of salary (whether career or final average or any other formula) per admissible years of service. Other components of the overall pension benefit, such as death or disability benefits, early retirement or bridging benefits, spousal benefits or indexing could be categorized as either base or ancillary benefits, depending on the plan’s financial situation, demographics, and the plan parties’ risk tolerance.

The federal legislative TBP framework could identify the specific benefits within each class of benefits, or the plan parties may be provided with the flexibility to determine what benefits are included in each class of benefits. Specifying what benefits are in each class would provide clarity and certainty to all parties as to what benefits are priorities and which are not; however, it may be the case that the classifications are not appropriate for all plans.  

Proposed Approach

The proposed federal TBP framework would provide for two classes of benefits with a varying level of benefit protection:

  • Base benefits could be reduced but would have a high level of protection and would only be reduced as a last resort. 
  • Ancillary benefits would have a lower level of protection and would be reduced before base benefits were reduced.    

The proposed federal TBP framework would provide flexibility for the plan text to specify which benefits would be categorized in each of the base and ancillary categories, which benefits could be reduced or increased, and in which order of priority. The reduction of accrued benefits under these provisions would be allowed, but not required, if provided for in the plan text. Converting a base benefit into an ancillary benefit or vice-versa, and thereby altering the overall level of protection would be possible, but would require amendments to the plan text with the associated member consent and filing process.

Questions

  • Is the approach of categorizing benefit in two classes appropriate?
  • Should base and ancillary benefits be determined by pension plans or more fully prescribed in federal legislation or regulations?

4.5 Funding deficit recovery plan

Pension standards legislation across Canada generally defines a deficit as the excess value of plan liabilities over the assets of the plan. Matters related to the liability for funding deficits, payment schedules and approval processes, are typically included in legislative provisions.  Unlike traditional DB plans, where the plan sponsor is solely responsible for funding the deficit, the shared-risk nature of TBPs implies that plan members and beneficiaries would also have a responsibility to fund deficits. The level of flexibility in determining contributions and benefits will determine the specific deficit recovery measures that must be taken as well as their prioritization.

Considerations

Change in the plan’s financial position

Volatility in the markets may cause rapid changes in the funding position of a pension plan. Accordingly, if a pension plans finds itself in a deficit position, steps should be taken early on to prevent the deficit from challenging the sustainability of the plan. The federal legislative framework should therefore be clear on the desired outcome of deficit funding measures and the need for timely action.

Consistency with the funding requirement, benefits and contributions model

Deficit recovery provisions should be consistent with the funding requirement, which sets the level of the plan’s financial health that must be reached. Hence, the trigger for implementing deficit reduction measures, and the threshold for determining when such measures are no longer needed, depending on the funding approach, would be based on either:

  • the going concern funding ratio including the PfAD; or
  • the going concern funding ratio and the “probability test”.

The range and prioritization of deficit recovery measures would also be linked to the extent of variability in employee and employer contributions. In a model where variations in contributions act to reduce the risk of benefit reductions, contribution increases would be the first and possibly the main deficit recovery measure. In contrast, if employer contributions are fixed, the scope for increasing total contributions is more limited and, once the cap on employee contribution increases is reached, benefit reductions would more likely be needed to meet minimum funding requirements.

Finally, the prioritization of deficit recovery measures should reflect the level of protection granted to the different categories of benefits. Accordingly, in a deficit situation, benefits categorized as “ancillary” should be reduced in priority to benefits categorized as “base”.

Impact on parties

In prioritizing deficit recovery actions, plan administrators should take into account that some actions will have varying impacts on the different parties. For example, increases in contributions will only impact active members, while reductions in benefits are more likely to impact retirees right away with a deferred impact on active members.

Proposed Approach

Deficit recovery plan

The proposed federal approach is a requirement that detailed rules and provisions regarding deficit recovery be set in a deficit recovery plan that could be a standalone document or part of the plan text. The plan, which would have to be filed with the Superintendent, would have to contain the following elements:

  • Trigger for deficit recovery measures;
  • Timelines for implementing the measures;
  • Description of all measures and order of priority;
  • Minimum funding level to be reached through the measures; and
  • Approval process.

Liability

Under federally-regulated TBPs, depending on the deficit recovery measures set out in the plan text and how they are prioritized, responsibility for funding deficits could be shared between some or all of the plan parties, i.e., the employer, plan members, retirees and other beneficiaries.

Trigger

If the margin approach is adopted, deficit recovery measures would, at a minimum, need to be triggered as soon as the margin or PfAD is completely depleted (i.e., when there are no more assets to cover the value of the PfAD). Measures would need to continue to apply until the funding ratio reaches 100%, (i.e., the PfAD is fully built-up again). Plans should, however, implement a deficit recovery plan before full depletion of the PfAD so as to maintain the buffer and avoid benefit reductions.

Under a “probability test” funding requirement, deficit recovery measures would be required as soon as either:

  • the going concern ratio falls below 100%; or
  • the probability test is not met.

Timeline

The deficit recovery plan would have to set out the maximum time period (e.g., one year) to implement deficit recovery measures.

Deficit recovery measures

There would be a requirement that the measures to be taken in relation to a funding deficit and the order or priority be clearly set out in the deficit recovery policy. The policy would have to specify what actions are required while the plan is ongoing and their prioritization, and what actions would apply in case of plan termination.

Such actions could include:

  • increase in plan member or employer contributions (if allowed);
  • special payments by the employer;
  • reversing past increases in benefits;
  • reductions of past and future ancillary benefits; or
  • reductions of past and future base benefits; (including corresponding reductions in commuted values for members ending their participation in the plan, or in the case of plan termination).

Process

Once the deficit recovery measures are triggered, the Board of Trustees would have the authority and obligation to implement the specified measures, without requiring the consent of plan members and retirees.

Questions

  • Should the deficit recovery measures and their prioritization be determined by plan members or more fully prescribed in federal legislation or regulations? If the latter, what measures should be prescribed and what should be their order of priority?
  • Should deficit recovery measures be triggered as soon as the PfAD starts to be depleted or the probability test is not met?

4.6 Funding surplus utilization plan

Surplus is defined in federal and provincial pension legislation as the excess value of plan assets over the liabilities of the plan. Matters related to surplus distribution, including issues such as entitlements, rules for withdrawal and approval processes, are typically included in legislative provisions. The shifting of risks towards plan members and retires under a TBP means they would be entitled, at least in part, to a funding surplus. Exactly how a surplus is distributed will depend on rules and provisions relating to the setting and changes in contributions and benefits.

Considerations

Change in the plan’s financial position

Volatility in the markets may cause rapid changes in the funded position of a pension plan. Accordingly, if a pension plan has a surplus, care will have to be taken to ensure that it is not spent or distributed too quickly, which could bring the plan into a deficit position. A minimum threshold for allowing access to the surplus could be applied, for example a minimum margin above the fully-funded ratio of 5%, in addition to meeting the probability test.

Consistency with the funding policy, benefits and contributions model

Surplus utilization provisions should be consistent with the funding policy. The rules for allowing surplus utilization and related limits should ensure that, at a minimum, no plan assets should be distributed or used as surplus until the value of plan assets fully covers the going concern liabilities and either the PfAD is funded or the probability test is met, depending on which approach to funding is taken.

The range and prioritization of surplus utilization measures should also be tied to the extent of variability in employee and employer contributions. In a model where substantial variations in contributions serve to reduce the risk of benefit reductions, contribution reductions could be the first and possibly the main surplus utilization measure. In contrast, where contributions are fixed or subject to a narrow variation range, a surplus would be mainly allocated towards benefit increases.

Finally, the prioritization of surplus utilization measures should reflect the level of protection granted to the different categories of benefits. Accordingly, in a surplus situation, the reversal of prior reductions in benefits should prioritize benefits categorized as “base” before benefits categorized as “ancillary”.

Entitlement

Given that, under a TBP, the risk is shifted towards the plan members and beneficiaries, so too should the rewards associated with risk-taking. Accordingly, it is reasonable that surplus allocation measures include an equitable allocation to members and beneficiaries. Provisions relating to entitlement to the surplus should be clearly articulated in the plan text.

Surplus available for use

Once a threshold or trigger is set for utilization of a surplus, it must be determined how much of this surplus can be used, and under what timeframe. In order to ensure the plan does not end up in a deficit position, it may be desirable to set limits on how much of the surplus can be used (and consequently how much of it should remain in the fund) and/or require that actions such as changes in benefits or contributions be gradually phased in over a few years to prevent a rapid change in the plan’s funding position.

Impact on parties and equity

In prioritizing the surplus utilization actions, it must be taken into account that some actions will have varying impacts on the different parties. For example, reductions in contributions would only benefit active members and the plan sponsor, while increases in benefits would provide retirees with an immediate advantage.  

Level of prescription

In order to avoid uncertainties and disagreements between parties, the rules for the allocation and use of a funding surplus should be clearly set out ex ante. This could be achieved through legislation and regulations or in a detailed manner in the plan text or one of the plan’s policies further to a legislative or regulatory obligation to do so.

Ongoing vs. terminated plans

The surplus utilization rules and policies should distinguish between plan terminations (where all the assets of the plan are distributed and no further liabilities are incurred), and ongoing plans (where a funding surplus exists only notionally in a plan that has continuing liabilities) in order to reflect their different circumstances. 

Proposed Approach

Surplus utilization plan

It is proposed to establish a requirement that detailed rules and provisions regarding surplus utilization for federally-regulated TBPs be set out in a surplus utilization plan that could be a standalone document or part of the plan text. The plan, which would be filed with the Superintendent, would be required to contain the following elements:

  • A trigger for surplus utilization measures;
  • A cap on surplus utilization;
  • A description of all measures and order of priority; and
  • An approval process.

Entitlement

The federal legislation would not impose the sharing of the surplus between the employer and plan members and beneficiaries, nor would it state that only members and beneficiaries should be entitled to the surplus. Which parties benefit from the surplus would ultimately depend on what the surplus allocation measures are and how they are prioritized. Provisions relating to entitlement to the surplus should be clearly articulated in the plan text.

Surplus utilization trigger

The federal legislation would require that a threshold be set in the surplus utilization policy for access to the surplus. This threshold would need to be set at 100% of the going concern ratio, including the PfAD, plus a supplemental margin (e.g., 5%). Under the “probability test” funding approach, both the ratio threshold and the probability test would need to be met for access to the surplus. This threshold would be a minimum, and there would not be an obligation to use the surplus as soon as the threshold is reached. The policy would also have to specify the timing for surplus access, e.g., establish whether the above tests be met for two or more consecutive valuations before actions can be taken in relation to a surplus.

Calculation of surplus available for use

The surplus utilization plan would specify how much of this surplus can be used, and under what timeframe. The cap as a dollar value or percentage would be set out in the policy, as well as any phasing-in period for surplus utilization actions.

Surplus utilization actions

The federal legislation and regulations would require that the actions that can be taken in relation to a funding surplus and the order or priority be clearly set out in the surplus utilization policy. The policy would specify what actions are allowed while the plan is ongoing, and what actions would apply in the case of plan termination.

Such actions could include:

  • reverse reductions of past and future base benefits;
  • reverse reductions of past and future ancillary benefits;
  • temporarily improve ancillary benefits (indexing, early retirement benefits, survivor benefit, etc.);
  • improve base or ancillary benefits;
  • reduce plan member contributions;
  • reduce employer contributions;
  • refund to the employees or employer; and
  • payout to plan members and beneficiaries (on termination).

Questions

  • Should the surplus utilization measures and their prioritization be determined by plan members or more fully prescribed in legislation or regulations? If the latter, what measures should be prescribed and what should their order of priority be?
  • What would be an appropriate margin (over the fully-funded level) to allow surplus utilization? What would be an appropriate cap on the utilization of surplus?

4.7. Disclosure and Communications

Existing disclosure rules under the Pension Benefits Standards Act, 1985 (PBSA) and the Pension Benefits Standards Regulations, 1985 (PBSR), require the plan administrator to provide significant information to plan members upon enrolment, termination, and retirement.

Considerations

The objective of the disclosure rules is to ensure the members and retirees are aware of the status of their plan and any amendments that may occur.

Proposed Approach

It is proposed that the federal TBP disclosure provisions include requirements for the plan administrator to provide information to members and retirees prior to conversion from a federally-regulated DB plan, during membership, in the event of membership termination or death, and in the event of plan termination and wind-up. Disclosure requirements would also be in place for new members upon enrolment.

The disclosure rules would seek to follow the existing rules outlined in the PBSA and PBSR as much as possible. Additional disclosure requirements for federally-regulated TBPs would include:

  • A comprehensive explanation of the plan’s funding policy and benefits rules (e.g., benefits structure; structure of contributions; risk management goals and procedures; funding surplus and deficit recovery rules);
  • Notification from the Board to the plan sponsor of any changes as a result of the implementation of the deficit recovery plan or surplus utilization plan (e.g. contribution increases).    
  • Written “pre-notice” to members and retirees indicating any upcoming changes (increases or decreases) in contributions (applies to members only) or enhancements or reductions in benefits in accordance with the plan’s funding policy 180 days prior to these changes taking effect;
  • Details in the annual statements on the expected base and ancillary benefits if the plan continued to perform under existing conditions and accumulated termination value that would be awarded if the plan were terminated immediately; and
  • Plan sponsors would be requested to provide the address of the Financial Consumer Agency of Canada web page in advance of converting to a federally-regulated TBP so that plan members and beneficiaries better understand the risks and benefits of these plans.

Disclosure rules would also outline filing requirements with the supervisor. As with members and retirees, the provisions would seek to follow the PBSA and PBSR as closely as possible. Additional filing requirements would include:

  • Details of the funding policy for the plan; governance policy; investment policy; risk management goals and procedures for the plan; and details of communication material that they plan to provide to members and retirees regarding the risk sharing characteristics of the federally-regulated TBP upon conversion or inception.
  • Updates on the above listed elements of the plan as part of the annual reporting requirements.

Questions

  • What are your views on the proposed additional disclosure requirements listed above?
  • What are your views on the timing, frequency, and sequence for communicating these additional disclosure items?
  • What are your views on requiring the plan administrator to report the solvency funding ratio of the plan in its annual reports for informational purposes only?

4.8. Conversion of Pension Plans to Target Benefit Plans

As conversion from a DB plan to a TBP would require consent from plan members and retirees, rules which outline the conversion process for DB plans are necessary. In the context of federally-regulated TBPs, conversion rules for DB plans would outline the method by which the existing pension benefit credits held by active plan members and pension benefits owed to retirees would be carried over to the TBP model in the event of conversion. 

Considerations

Allowing for benefit adjustments

As conversion from a DB plan to a TBP could result in adjustments in benefits, the federal framework would need to accommodate benefit adjustments in this context.

Funding deficits upon conversion

The federal TBP framework must also include a mechanism that addresses existing funding deficits upon conversion, as TBPs may be an option for federally-regulated DB plans facing solvency funding shortfalls and sustainability challenges. Although the funding rules would not require solvency funding, plans would be required to maintain going-concern funding. DB plans running a going-concern deficit at the time of conversion would need to become fully funded for the TBP model to operate effectively.

Accrued Benefits

When converting to a TBP, one must consider how benefits accrued under the pre-conversion pension plan are treated. If all accrued benefits at the time of conversion are considered to be part of the “base” benefits going forward (as opposed to ancillary benefits), all accrued benefits at the time of conversion are the least likely to be reduced under the funding deficit recovery plan. The federal regime would also need to outline how accrued benefits are to be treated and how the value of this accrued benefit would be established for the conversion.

Proposed Approach

It is proposed that the conversion provisions allow for a reduction in accrued benefits so as to accommodate federally-regulated DB plans that, through consent from employees and retirees, are seeking conversion to a federally-regulated TBP.

The federal framework would require that plans be fully funded on a going-concern basis upon conversion (taking into account changes to plan provisions such as benefit reductions). Any going concern deficit would be required to be made up by the employer at the time of conversion. The federal framework would also require that all accrued benefits at the time of conversion be considered “base” benefits, which can be reduced. Future indexation for retirees would be considered an ancillary benefit.

As discussed in sections 4.3 Contributions and 4.11 Termination and Wind-up, to ensure that federally-regulated DB plans do not seek to convert to a federally-regulated TBP so as to terminate under federal TBP rules (to avoid solvency funding requirements upon wind-up), under the proposed legislation/regulations, plans terminated within 5 years of conversion would be subject to existing termination rules for DB plans governed by the PBSA.

Conversion from a federally-regulated DC plan to a TBP would also be possible under the federal regime. In this case, the value of assets accumulated under the DC plan would determine an employee’s accrued benefits upon conversion.

Questions

  • What are your views on how benefits are treated upon conversion?
  • Do you have any other views on how accrued benefits should be calculated at the time of conversion?
  • What views, if any, do you have on converting federally-regulated DC plans to TBPs?

4.9. Portability and Locking-in Rules

The PBSA and its regulations include rules that provide for the locking-in of a member’s pension benefits and provide for limited circumstances under which funds can be withdrawn from the plan. The PBSA also sets out the rules for the portability of the portion of the plan’s assets attributed to a member, i.e., the pension benefit credit, to another pension plan or another retirement saving or retirement income vehicle.

The current PBSA provisions for federally-regulated DC and DB plans applicable to the locking-in of a plan member’s contributions and the calculation and portability of the member’s pension benefit credit would apply in the context of federally-regulated TBPs. As a result the same conditions would apply and the same options would be available for the transfer of funds out of a TBP.

  • Are there any TBP-specific issues in relation to locking-in and portability that should be addressed in the federal legislative and regulatory framework?

4.10. Individual Termination

The TBP framework must address situations where an individual seeks to terminate their employment and transfer their assets out the plan.

Considerations

Benefits under the proposed federal TBP framework are “target” rather than “defined” or “guaranteed” as they are under a DB plan and, as a result, plans would not be required to be funded on a solvency basis. For that reason, one cannot use the same discount rate used to determine the accrued value of a pension benefit due to an individual who seeks to terminate their employment and transfer their assets out of the plan as would be used for a DB plan. Instead, an alternative method must be used that reflects the benefit provided under the TBP.

An option would be to calculate the termination value for an individual employee by taking the target benefit accrued by the plan member at the time of termination, adjusted by the funded ratio of the plan as of the review date of the most recent valuation of the plan. The plan administrator could delay the calculation of the termination value until a new termination value is calculated if the plan administrator determines that the funded ratio has adjusted by more than 10 percent since the last valuation.

In determining a termination value one must consider any margin included in the funding model as discussed in section 4.2 Funding Policy. Inclusion or exclusion of this margin in the calculation of the termination value will have an impact on whether the terminating employee receives a share of the margin upon departure. In either case, when calculating a termination value, the same discount rate must be used to calculate the accrued value of the terminating employee’s target benefit as is used in the calculation which determines the funded ratio of the plan.

Under the proposed federal TBP framework, the value provided upon termination, referred to as the termination value, would be calculated following a method similar to the one described above.

The proposed federal model would require that the termination value be calculated by taking the accrued value of the individual’s target base benefit on a going-concern basis, adjusted by the funded ratio of the plan at the time of the most recent valuation. A revised valuation could be requested for this calculation if the plan administrator determines that the funded ratio has adjusted by more than 10 percent.

The proposed federal framework would require the individual’s accrued amount to be calculated using the normal retirement age and the same discount rate and other assumptions used to calculate the plan’s overall funding liabilities (including any margins applied to the discount rate). The decision to include buffer margins in the termination value calculation would be determined in the plan text.

Moreover, the proposed federal framework would allow for the funded ratio to exceed 100 percent in the calculation of an individual member’s commuted value (which would occur if the plan is in a surplus situation). As a surplus is built up to increase the likelihood of paying ancillary benefits, allowing for surplus to be included provides for the full value of ancillary benefits to be captured in the commuted value calculation.

  • What are your views on the methodology used to calculate the individual termination value?

4.11. Plan Termination and Wind-up

As outlined under section 29 of the Pension Benefits Standards Act, 1985, the Office of the Superintendent of Financial Institutions (OSFI) can terminate a federally-regulated plan for any of the following reasons: (1) there is a cessation of employer contributions; (2) the employer is discontinuing its business operations; (3) OSFI is of the opinion that the plan has failed to meet any of its funding standards (i.e., solvency or going-concern): or, (4) there is a cessation of crediting of benefits to plan members. Alternatively, the plan administrator or employer may voluntarily terminate the plan by notifying OSFI in writing. In either case, as of the date of termination, there is to be no further crediting of benefits to the plan members under that pension plan. 

Wind-up refers to the distribution of assets of a pension plan that has been terminated. The actual termination process may be lengthy and therefore there may be significant delays between the declaration of termination and the actual wind-up of a plan.

In the context of federal TBPs, termination and wind-up rules will determine the method by which a target benefit is calculated upon termination and how it would be distributed to plan members and retirees.

Termination Value

  • There is a cessation of employer contributions;
  • The employer has discontinued or is in the process of discontinuing all of its business operations (or a part of its business in which a substantial portion of employees who are members of the pension plan are employed);
  • There is a cessation of crediting of benefits to the plan members; or,
  • OSFI believes the plan is no longer meeting going-concern funding standards.

It is proposed that the administrator could have the option to terminate the plan by indicating their intention to do so to OSFI in writing. The employer or administrator would be required to notify OSFI of their desire to terminate the plan not less than 60 days and not more than 180 days before the date of the termination or winding-up.

  • What are your views on the formula used for calculating termination value? Would it be more appropriate to use the solvency funding ratio?
  • What are your views on applying solvency requirements in the case of plan termination within 5 years of conversion from a federally-regulated DB plan?

4.12. Application to multi-employer plans

  • To what extent could the proposed elements of the federal TBP framework apply in a multi-employer context?
  • What elements of the plan design would need to be different from the single employer environment?

[1] Provisions for Adverse Deviations in Going Concern Actuarial Valuations of Defined Benefit Pension Plans [PDF 355KB]

To access a Portable Document Format (PDF) file you must have a PDF reader installed. If you do not already have such a reader, there are numerous PDF readers available for free download or for purchase on the Internet.