Bill C-228: The Four-Year Countdown Starts Now
Well, despite all the doomsayers’ warnings of unintended consequences, Bill C-228 the Pension Protection Act is now law. It received royal assent on April 27, 2023 and the four-year transition clock is now ticking.
The Pension Protection Act amends the Bankruptcy and Insolvency Act and the Companies’ Creditors Arrangement Act to ensure that claims in respect of unfunded liabilities or solvency deficiencies of pension plans are paid in priority in the event of bankruptcy proceedings.
If you would like more background on the topic of super-priority for pension deficits in the case of an employer’s insolvency I encourage you to read Dean’s blog from last year. In today’s blog, I’m going to focus on where we go from here.
It’s Not Four Years for Everyone
While it’s generally reported that this new Pension Protection Act won’t take effect for four years, that’s not quite true. The four-year transition period only applies to defined benefit (DB) pension plans that existed before April 27, 2023. The new law is fully effective for any new DB pension plans established on and after April 27, 2023. Admittedly, very few new DB plans are created these days, but it is possible. The best example is when a company spins off a division and the new company sets up a new DB pension plan for their employees to mirror the pension benefits from the prior employer. Keep this in mind when you’re negotiating your next merger and acquisition transaction.
Also, loan agreements tend to have fairly long time horizons and therefore I suspect that we’ll start to see banks and other lenders react fairly quickly to implement changes to their underwriting procedures and impose new covenants on borrowers with respect to their DB pension plans. Many in the industry are predicting higher costs of borrowing and requirements to maintain DB pension plans fully funded at all times.
Can We Finally Kill the PBGF?
We’ve written about the Ontario Pension Benefits Guarantee Fund (PBGF) many times before and generally we consider it a bad idea.
Given that the new Pension Protection Act will greatly enhance the security of the benefits provided by the DB pension plans that survive, there will be far less need for the protections provided by the PBGF. So perhaps there is at least one silver lining with this new law? Hopefully the Ontario Government is paying attention and will revisit the cost/benefit analysis of maintaining the PBGF.
More Than You Bargained For?
One peculiarity of the Pension Protection Act is that it makes a super-priority of the greater of the going-concern unfunded liability or the solvency deficiency. This makes no sense to me given the stated rationale of protecting pension plan members’ benefits if the employer goes bankrupt and the pension plan is wound up. The only requirement should be to fully fund any solvency deficiency. By definition in a bankruptcy the employer and the pension plan are no longer a ‘going-concern’ and therefore funding the pension plan on a going-concern basis could provide an unfair windfall to the pension plan members that doesn’t seem consistent with the purposes of this new law.
What About Quasi-DB Pension Plans?
A number of lawyers have raised the issue that it’s unclear what types of pension plans the Pension Protection Act applies to, as arguably it wouldn’t make sense to apply these new rules to quasi-DB pension plans where the employer’s obligation is limited to a negotiated/prescribed contribution. For example, Multi-Employer Pension Plans (MEPPs), Target Benefit Plans (TBPs), and Jointly-Sponsored Pension Plans (JSPPs) would all fall under this category and it would be a real shock if the participating employers in these plans would be on the hook to fund deficiencies in the case of insolvency.
The legislators have said that this isn’t their intention and that the law will only apply to employers who are legally responsible to backstop their pension plan; however, where does it say this in the law as written? Unfortunately, as with many other pension plan issues, it may be the courts that end up deciding the final answer (unless clearly addressed in the Regulations which presumably are forthcoming).
As noted above, there are several open questions related to this new law. Hopefully many of these questions will be answered once the Regulations are drafted to deal with the details. In particular, I fully expect the Regulations to make it clear that these rules will not apply to MEPPs, TBPs, JSPPs, and the like, and if we’re lucky they will also clarify the ‘greater of’ issue.
In the meantime, it’s somewhat fortunate that DB pension plans are generally well funded today, so perhaps it’s worth considering if it’s a good time to de-risk and give your lender some comfort that large pension deficits are unlikely in the future? That being said, the ultimate in de-risking a pension plan is to wind it up – so I wouldn’t be surprised if the current trend of winding-up DB plans accelerates as a result of these new rules.
If your company relies on loans to operate, best to start the conversation with your lenders sooner rather than later to investigate what impact these changes will have on borrowing costs and/or more restrictive covenants, if any.
Unfortunately, the signs point to unintended consequences: fewer DB pensions and increasing numbers of DC pensions where the employees alone bear the investment and mortality risks. However, keep in mind that this doesn’t need to be a binary choice between DB or DC – there are many ‘best of both worlds’ alternatives such as MEPPs, TBPs, and JSPPs that are gaining popularity with both employers and employees as a reasonable compromise between benefit security and risk sharing.
Employers who provide DB pension benefits to their employees must have whiplash by now. The pendulum keeps swinging from bad news (solvency funding, declining interest rates, immediate vesting, financial crises, poorly funded plans, unclear surplus ownership) to good news (solvency funding relief, funding reform, good investment returns, well funded plans, contribution holidays, higher interest rates) and back again (super priority). Just when we thought that provincial funding reform was going to slow the decline of private-sector DB pension plans in Canada, the Federal government throws a wrench into things with Bill C-228.
Well, hang on tight – the next four years should be really interesting as we see how this all shakes out.