Ontario’s New Pension Funding Framework – The Good, the Bad and the Ugly
Further to our client memo on the current consultations by the Ontario Government on the proposed regulations relating to the new funding framework for DB pension plans, and the related consultation on the proposed regulations relating to a discharge of liabilities for annuities purchased by ongoing DB pension plans, I wanted to provide my views on the good and the bad of their proposals.
New Funding Framework
The reduced requirement to fund to 85% on a solvency basis is a good idea; however, I would have gone a step further and removed the requirement to fund on a solvency basis and simply required the reporting of the funded status on a solvency basis. Thankfully the ability to use Letters of Credit remain under the new rules, and can be counted toward the 85% target. I would have also followed Quebec’s example and specified that commuted values that are paid out to terminating members would reflect the funded status of the plan (i.e. if the plan is 85% funded on a solvency basis and the member elects a lump sum transfer rather than a deferred pension, they will get 85 cents on the dollar as a final settlement of their benefits).
The requirement for a Provision for Adverse Deviations (“PfAD”) is a good idea on the going-concern basis. First, we start with a “best estimate” liability, then we layer on a PfAD which tries to capture the “riskiness” of the plan and its investment policy. We then take any deficits and amortize them perpetually over new 10-year periods. As an actuary, I can support this rational accumulation of assets to support the plan’s liabilities – although, I am curious (and somewhat suspicious) as to the actuarial rational behind the PfADs. [Can someone please send me a copy of the actuarial work that lead to these formulas?] Also, the fact that the contributions to fund any going-concern deficits start one year after the valuation date and continue for one year past the next valuation date raises an interesting technical question: Can we reflect the value of next 12 months of pre-scheduled contribution when we calculate the funded status of the plan?
Now, let’s imagine a plan with surpluses on both solvency and going-concern – while this sounds utopian, unfortunately the new rules for contribution holidays and the use of surplus are very restrictive. In particular, the requirement for cost certificates to be filed within 90 days of the start of the fiscal year will be problematic. One reason is that cost certificates cause headaches for actuaries as they are not clearly outlined in our standards of practice, and the result is that we are often backed into doing a full valuation – which is difficult to do in 90-days and difficult to explain to our clients. I would have simply required annual valuations in the usual 9-month timeframe unless the plan was significantly overfunded (as is done for Federally-registered pension plans). I also would like to see an exemption for plans that have “excess surplus” under the Income Tax Act – this causes issues because the Canada Revenue Agency prohibits contributions but the Financial Services Commission of Ontario requires contributions to resume unless a cost certificate is filed.
Finally, with respect to the tricky problem of “surplus ownership”, I would have preferred that Ontario had done what Quebec did with their “banker’s clause” or “notional account” whereby excess employer contributions are notionally tracked and can be first used for contribution holidays and potential surplus refunds upon plan wind-up. This would go a long way to alleviate employers’ concerns that they are on the hook to fund deficits but then if/when surplus arises they must “share” with the plan members.
My final disappointment with the new funding framework is the decision to retain the Pension Benefits Guarantee Fund – and worse, to increase the benefits and premiums! I continue to firmly believe that this uniquely Ontario solution is unsustainable and just bad public policy. The government should have taken this opportunity to put this ugly mistake behind us once and for all. Oh, and to make matters worse, they removed the ability for employers to use any surplus in their pension plans to pay PBGF premiums.
With my criticisms above noted, overall, I believe that these new funding rules are a significant step in the right direction. They will certainly provide for more stability in contributions, which has long been a complaint from plan sponsors.
As they say, “hindsight is 20/20” – and while I don’t like to dwell on the past, I wish that these rules were around 15-20 years ago when we first started to notice that solvency funding was doing more harm than good. If so, I think we would have avoided the closure and wind-up of many DB pension plans; however, I also think that it’s far too late for these rules to cause most employers to want to restart offering DB pensions to their employees. It will be interesting to see if there will be any.
Discharge of Liabilities for Annuities
The new rules for the discharge of liabilities for the purchase of annuities also seem like a step in the right direction; however, I do have a few concerns that hopefully can be addressed before the final rules are issued.
I completely support the concept that the ongoing pension plan members should not be harmed by any annuity purchase for their former colleagues’ benefits; however, the new rules take this a step too far. For example, if the existing plan is 75% funded and annuities are purchased, then according to the new rules the annuities would need to be 100% funded and the ongoing plan would need to be 85% funded.
Also, the top-up contribution rules to gain a retroactive discharge for an annuity purchase done prior to the new rules are onerous. The fact that the plan was likely topped up at the time of the original annuity purchase such that the ongoing plan was not harmed is effectively ignored as the plan must be topped up again to at least 85%.
Finally, the new rules specify that annuitized members will retain their entitlement to any future surpluses in the plan. While this is mostly a legal issue, I would be curious what the smart pension lawyers think of this requirement – it looks very problematic to me.
Let Your Voice be Heard
The comment deadline for these new rules is Monday, January 29, 2018. If you have any strong feelings on these new requirements, I suggest that you let the government know.