McGuinty Government Taking Additional Steps to Strengthen Ontario's Pension System
As part of its comprehensive plan for strengthening the retirement income system for Ontarians, the province will seek the approval of the Legislature to expand on the reforms introduced in the Pension Benefits Amendment Act, 2010 and further modernize Ontario's pension legislation.
These reforms would also complement Ontario's call for a modest expansion of the Canada Pension Plan, and its discussions with other governments regarding pension innovations that could lower costs and facilitate access to defined contribution plans.
Regulatory amendments would also be required to implement most of these proposals. To maintain an open and transparent process, draft regulations will be posted on the Regulatory Registry for review by stakeholders.
The following proposals build on principles announced in Budget 2010 and recommendations from the Expert Commission on Pensions (the Commission). They reflect consultations with stakeholders, discussions with members of the Canadian Institute of Actuaries, and input from the Advisory Council on Pensions and Retirement Income. A number of the proposed reforms would be phased in so that plan sponsors, administrators and other stakeholders would have time to adjust.
Modernize Funding Rules
The government is proposing to modernize Ontario's pension funding rules in the following ways:
Strengthen Required Contributions
Lower than usual returns in equity markets and low long-term interest rates have left many defined benefit pension plans less than fully funded. If funding rules were strengthened, plans would be better positioned to withstand market downturns and promised benefits would be more secure.
In keeping with the Commission's recommendations, the government is proposing to tighten the rules for valuing pension plan assets and liabilities by restricting the use of smoothing (averaging) methods and limiting "excluded benefits." In particular,the government is considering changing the rules to:
- eliminate the averaging of solvency interest rates and require the use of current interest rates to value plan liabilities;
- limit smoothing of going concern assets to no more than the last five years;
- limit the actuarial value of going concern and solvency assets to within 20 per cent of market value so contribution requirements better reflect current circumstances;
- require the value of indexation to be included in going concern valuations, but continue to permit its exclusion from solvency liabilities;
- provide a uniform funding threshold of 85 per cent to identify plans with "solvency concerns" that require annual valuations; and
- enable the government to make regulations regarding acceptable actuarial methods and assumptions.
Current rules do not require disclosure when a "contribution holiday" is underway. The Commission stated that "(i)nformation about contribution holidays is essential for an understanding of plan funding, both for the regulator and for all plan participants."
Therefore, the government is proposing to:
- expressly permit contribution holidays, unless prohibited by the plan documents, only if they do not reduce the plan's transfer ratio below 105 per cent; and
- require plans to disclose contribution holidays to members, retirees, and other beneficiaries of the plan, as prescribed, and file annual statements with the regulator to confirm eligibility.
Accelerate the Funding of Benefit Improvements in a Manner that Encourages Prudence and Improves Benefit Security
The Commission noted that current rules permit benefit improvements to be funded over 15 years. It suggested, instead, that they should be "fully identified and funded, not just fully, but promptly."
To improve benefit security, the government is proposing to require that benefit improvements be funded over no more than eight years on a going concern basis.
Where a plan would have a transfer ratio of less than 85 per cent or be less than 85 per cent funded on a going concern basis after the improvement is made:
- a lump sum payment would be required to prevent a reduction of either the transfer ratio or the going concern funded ratio; and
- any remaining cost would be amortized over no more than five years.
Clarify Surplus Entitlement
The Commission observed that "(e)mployers, active members and retirees have been engaged in conflicts over surplus use and distribution since at least the mid-1980s." Long-standing debates about surplus entitlement and the costly litigation that often results underline the need to reform a process the Commission called "unnecessarily cumbersome, time-consuming and expensive".
To address surplus entitlement issues, the government is proposing to:
- provide more legal certainty and a binding arbitration process for surplus distribution on plan wind up, while continuing to allow payment to an employer where there is entitlement or a surplus-sharing agreement;
- allow payment of surplus from an ongoing plan to an employer where there is entitlement or consent (i.e., two-thirds of members or bargaining agent, and retired members and other beneficiaries, as appropriate), provided the remaining surplus is no less than the greater of (i) 25 per cent of wind up liabilities and (ii) twice the current service cost plus 5 per cent of wind up liabilities; and
- ensure surplus rights are protected after asset transfers related to plan splits or mergers by requiring surplus-sharing agreements if plan terms differ.
Modify Funding Requirements for Multi-employer Pension Plans (MEPPs) and Jointly Sponsored Pension Plans (JSPPs) that Meet Specified Criteria
The Commission stated that "material differences among plans should be reflected in the details of regulatory requirements". Specifically, it recommended that "MEPPs and JSPPs should be allowed more flexibility in funding", citing joint governance, risk-sharing, the ability to reduce benefits and the absence of Pension Benefits Guarantee Fund (PBGF) coverage as legitimate reasons for different funding rules. Acknowledging these distinctions, the government is proposing to:
- clarify that "target benefit" MEPPs meeting certain criteria, including an ability to reduce accrued benefits under the terms of the plan, are exempt from solvency funding requirements. Other proposed criteria could include:
o some or all of the conditions already established for specified Ontario multi-employer pension plans;
o retired member representation in plan governance;
o a benefit reduction mechanism to address funding shortfalls in ongoing plans in a timely manner;
o an asset distribution process when the plan is underfunded on full wind up;
o all members to be employed in jurisdictions where the plan is eligible for a permanent solvency funding exemption; and
o enhanced disclosure to members and retired members;
- exempt current JSPPs from solvency funding requirements, provided certain requirements are met, e.g., enhanced disclosure to members and retired members;
- allow "target benefit" MEPPs that are exempt from solvency funding requirements to reduce benefit levels to the greater of the transfer ratio or going concern ratio when individual members choose to transfer the commuted value of their pension benefits out of an underfunded plan; and
- require a "target benefit" MEPP or a JSPP that makes a benefit improvement that would leave it less than 85 per cent funded on a going concern basis to fund that improvement over no more than five years.
Make the PBGF More Sustainable
Since 1980, Ontario's PBGF has provided pensioners and plan members with a degree of benefit protection when plans are wound up with insufficient funds to cover promised benefits. Generally, the fund provides a maximum benefit "top up" to $1,000 per month.
The Commission recommended that the PBGF be self-financing. Current PBGF assessments are as low as $1 per plan member per year, with no minimum assessment per pension plan. There is also a $100 per member maximum and $4 million maximum assessment for pension plans with deficits. These maximums have enabled some plans with significant solvency deficits to benefit from PBGF coverage at a reduced rate. To mitigate the financial risks and place the PBGF on a more sustainable financial footing, the government is considering a four-part strategy that recognizes the need for participation by all stakeholders:
1. Build PBGF Reserves
- A $500M grant to the PBGF earlier this year helped to stabilize the fund and addressed financial pressures arising from recent plan wind ups.
2. Increase PBGF Revenue
- Make assessments more consistent for covered plans with similar funding levels and raise assessment levels by:
o establishing a minimum assessment level of $250 for each pension plan covered by the PBGF;
o raising the base fee per plan member from $1 to $5;
o raising the maximum fee per plan member in underfunded pension plans from $100 to $300; and
o eliminating the overall assessment cap for underfunded pension plans.
If these proposals had been in effect last year, this would have raised about $30 million more in assessments collected in 2009.
3. Extend Eligibility Deferral Periods
- As recommended by the Commission, extend the exclusion period from PBGF coverage for new plans and benefit improvements in existing plans from 3 to 5 years, consistent with solvency deficit funding requirements.
4. Reduce Risk
- As part of this reform package, implement stronger funding rules to reduce the risk and size of pension deficits in covered pension plans.
The Commission encouraged the government to increase the maximum top up under the PBGF from $1,000 to $2,500 per month. However, the Commission also stated that "benefits cannot be increased without a full appreciation of the cost of doing so". Given the significantly higher assessments that would be required to increase the guarantee level to $2,500 per month and the challenges faced by the PBGF as currently structured, the government is not proposing an increase at this time.
Temporary Solvency Funding Relief for Certain Pension Plans in the Broader Public Sector
Certain employers in the broader public sector have found themselves facing the prospect of having to make significant solvency special payments that could negatively affect front-line public services. To protect these vital services and place pension plans on a more sustainable track for the future, the government is proposing to offer more time to pay down solvency deficits provided that broader public sector employers take steps to make their pension plans more sustainable. As announced on August 5, 2010, these proposals are expected to be utilized by certain Ontario universities.
Two Stage Relief
A two-stage process is proposed in order to provide employers, members and their representatives with an opportunity to negotiate plan changes that ensure long term sustainability. Participating defined benefit and hybrid plans in the broader public sector that are less than 90 per cent funded would enter stage one of relief by submitting a plan to the Ministry of Finance outlining a proposal for how plans could be made more sustainable.
Recognizing that the terms of many pension plans are incorporated into collective agreements, broader public sector employers would need to negotiate with plan members and their representatives to enhance the sustainability of their plans. As noted in Budget 2010, plan changes might include, for example, contribution rate increases for plan members, prospective benefit adjustments or a conversion to joint sponsorship for future service. Accrued benefits, including pensions payable to retired members, could not be reduced.
- Stage one would be a three year period during which plans would be permitted to fund to a lower solvency threshold with required minimum interest payments.
- At the end of stage one, each plan would be assessed, based on technical measures, to determine whether sufficient progress in meeting their sustainability commitments had been made.
- Those plans that demonstrate sufficient steps have been taken towards sustainability would be eligible to enter stage two of the process.
- Stage two would provide the sponsor with up to 10 years to implement negotiated plan changes and liquidate solvency deficits.
- Plans that fail to enter stage two would be transitioned back to the normal pension funding rules.
- Contribution holidays and benefit improvements would be restricted while under the funding relief. These restrictions would remain in place for a period of time after exiting the process.
Proposals for regulatory change are intended to apply retroactively to plans for the first valuation filed as of a date on or after December 31, 2009.
Implement Further Modernization
In its report, the Commission acknowledged the need for staged implementation of its many proposals. It also made a compelling argument for pension innovation and a regular review of the Pension Benefits Act. The government is, therefore, also proposing to:
- Provide More Flexibility and Opportunities for Plan Innovation
o permit employers to use irrevocable letters of credit from a financial institution to cover as much as 15 per cent of solvency liabilities;
o allow payment of variable (life income fund-like) benefits from defined contribution plans;
o allow "flexible" defined benefit pension plans, as permitted under the federal Income Tax Act, which give members the opportunity to purchase certain enhanced benefits without affecting their registered retirement savings plan deduction room; and
o permit defined benefit plans to amortize going concern and solvency special payments over a time period beginning up to one year following the valuation date.
- Investigate Other Forms of "Target Benefit Plans"
o explore with interested stakeholders (including Finance Canada, pension officials in other jurisdictions and the Canadian Institute of Actuaries), the feasibility, design and implementation of jointly-governed, single employer "target benefit plans" for employees represented by unions or "union-like organizations".
- Strengthen Regulatory Oversight
o grant the Superintendent the power to appoint a new administrator in certain circumstances.
- Improve Plan Administration
o allow reasonable expenses to be paid from the pension fund, unless prohibited by the plan terms; and
o enable the Minister of Finance to enter into the proposed Agreement Respecting Multi-Jurisdictional Pension Plans that would provide a clear legal framework for regulating multi-jurisdictional pension plans.
- Adopt Recent Changes to the Federal Pension Fund Investment Rules
o parallel federal changes to pension plan investment rules and continue to review the appropriateness of the 30 per cent rule for pension investments.
- Require the Pension Benefits Act to be Reviewed Every Five Years
If these proposals are passed by the Legislature - and required regulations made effective - a significant proportion of the Expert Commission's recommendations will have been addressed. Recommendations not addressed to date will be considered for inclusion in a subsequent round of pension reform.
To this end, the government will continue to consult with stakeholders on issues related to the regulation of employment pensions in Ontario. The government continues to welcome feedback on how regulatory institutions could be improved so the government's ongoing pension reforms may be implemented and enforced in the most effective way possible.