Longer lifespans changing pension math

New mortality tables will mean increased costs for DB plans
By Sarah Dobson
|Canadian HR Reporter|Last Updated: 12/02/2013

People are living longer. Even 20 years ago, people weren’t enjoying such longevity. So the Canadian Institute of Actuaries (CIA) is developing new mortality tables that would solely use Canadian data for the first time.

It’s about providing more accurate tools when performing pension valuation work, said Jacques Lafrance, president of the CIA in Ottawa.

"We need to have Canadian tables because we felt that the mortality experience of Canadians may be different from people in the U.S."

Currently, actuaries are using a table published in 1994, with some allowances for future improvements, that is based on data from the United States, according to Tom Ault, associate partner for the retirement practice and risk settlement consulting leader at Aon Hewitt in Vancouver.

"(Pensioners’) improvements in life expectancy have been pretty dramatic, so this table really does a better job of capturing the shape of what a typical Canadian’s life expectancy is going to be," he said, adding the calculations are extremely technical but would, for example, see a 65-year-old male having a life expectancy of about 87.5 years instead of 85.

The new table also provides indicators and ways of adjusting for different groups based on socio-economic situations and the public and private sectors, said Ault, though there are questions about how these would be done in practice.

"It’s very important… you review the experience of your plan relative to what has been expected but also understand what your workforce looks like and demographics and how it compares to the workforce in the CIA study," he said.

Actuaries have to use the data carefully, said Lafrance.

"If you have data for the plan for which you are doing the evaluation and you have credible data, you should use it. If the group is not large enough to be credible in terms of market experience, consider using a general table. And that’s what we’re doing at this time, creating a general table that can be used, especially for small and medium-sized pension plans."

The mortality table not only looks at the past — to look at expected and actual life expectancy — but includes a future improvement scale, taking a two-dimensional approach.

Under the old method, there was pretty flat improvement into the future, but now rapid improvements are expected over the next few years — consistent with the last few years — followed by a drop, said Ault. So current retirees and younger pensioners would be impacted differently. That makes the job of an actuary harder, he said.

"But I don’t necessarily think that’s a bad thing because I think being over-simplistic misses some of the huge variability that exists around this," he said. "Really, what it does is make you realize that longevity is a real risk as opposed to just one number, one scenario."

Rising liabilities

Overall, the new tables would mean an upturn in liabilities for defined benefit (DB) pension plans, said Hugh Wright, a partner and group leader of the pensions and benefits practice group at McInnes Cooper in Halifax. Plan administrators will have to decide if they want to wait until the tables are formally enacted or update their liabilities right away, he said.

"The question would be whether your general, legal duties and in particular your interest in ensuring that any actuarial report has up-to-date data, whether that would suggest you should change the mortality tables even before they become mandatory by law."

The impact of the proposed changes would be different based on different situations, such as solvency or ongoing valuations, said Ault. A lot of private sector sponsors will be worried about solvency since they’re making huge contributions. But the immediate impact might be limited because, for pensioners, solvency assumes you will buy an annuity with an insurance company, and for younger pensioners, it’s the lump sum so it’s commuted value.

"Because insurance companies are already using tables like this or even more sophisticated than this, it shouldn’t impact that annuity purchase piece. It may a little bit but it’s not going to be significant," he said.

But the Actuarial Standards Board will likely change the standard, based on the new table, for commuted value, said Lafrance. When taken in isolation, use of the new table will increase the lump sum offered.

But if interest rates continue to rise, this will produce a downward impact on commuted values that may cancel out some or all of the impact of using the new table, he said.

When it comes to the funded status on an ongoing concern basis, there could be a five to 12 per cent increase in liabilities if a plan sponsor blindly moves from one table to the other, said Ault, though large plans may already monitor their experience and adjust tables, so the impact could be small.

Red flag for DC plans

There is also a red flag for defined contribution (DC) plans, he said.

"If people are living longer, they should be saving even more, which means financial planning and preparing and educating people on what they need to do for retirement to become more important."

People will either have to contribute more to their DC plan or work longer, said Wright, or they will have a lower annual retirement income.

Employers will also want to consider workplace policies such as subsidized early retirement provisions, he said.

"They’re very expensive and they’re very popular with employees — and rightly so because they’re a very valuable benefit, people can leave in their late 50s or early 60s and they get a substantially enhanced pensions benefit — and this, combined with the other challenges pension plans are facing, will bring into question the affordability of those sorts of arrangements over the longer term."

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