Most new retirement plans set up in Canada are stand-alone group registered retirement savings plans (RRSPs) or a combination of a group RRSP and a deferred profit-sharing plan (DPSP). Group RRSPs and DPSPs are often favoured over formal defined contribution (DC) pension plans because they are subject to less regulation — they are only registered under the Income Tax Act and do not have to be registered under provincial pension standards legislation. There is less upfront cost to establish these plans and it is less costly to operate and keep them compliant with applicable laws once they are up and running.
Stand-alone group RRSPs are the simplest vehicle to set up a DC retirement arrangement. All told, they are a collection of individual RRSP accounts with an overall contractual wrapper that enables the plan sponsor to act as the agent of each RRSP account holder for the purpose of collecting and remitting contributions to the plan and negotiating competitive fees.
By law, only employees can contribute to group RRSP accounts. Employer contributions can flow into a group RRSP only if they are treated as additional salary, subject to payroll taxes, as though an employee has contributed to his group RRSP account.
As an alternative — provided conditions can be met for establishing a DPSP — some set up the program as a combination of registered vehicles: a group RRSP for employee contributions and a DPSP for employer contributions. A combination group RRSP/DPSP arrangement enables employers to avoid payroll taxes on contributions and to use a vesting schedule if desired.
Step 1: Designing the plan
Take the time to think about what the organization is trying to achieve in setting up a retirement plan. These plans can be important mechanisms to remain competitive with peer companies, attract and retain the best talent and ensure the total rewards package offered to employees is attractive. Generally, the longer term goal is to assist employees in saving for retirement on a convenient and tax-effective basis.
Designing an effective retirement plan should include the following steps:
Decide on the level and structure of employee and employer contributions: This includes benchmarking what competitors are offering and considering how any proposed level of employer contributions would fit into the organization’s total rewards structure. It is also important to understand the level of retirement benefits the plan can reasonably be expected to deliver over a full career, which is critical in properly positioning the plan with employees.
Determine the remaining plan features: This includes deciding which categories of employees will be eligible, eligibility waiting periods, vesting rules (if applicable), in-service withdrawal rules, leave-of-absence provisions and investment choices.
Get employees involved: Even with an excellent retirement plan design, employee inertia around financial decision-making is a significant roadblock to success. Employees are often uncomfortable making financial decisions, particularly those that involve choosing to spend now versus later. To increase plan effectiveness, consider incorporating new techniques into the design of the retirement plan, such as auto-enrolment and auto-escalation of contributions.
Many employees fail at the first step — filling out the forms necessary to join a plan — particularly if there is a waiting period before they are eligible to join the plan. Consider having them fill out the forms when they are hired and automatically enrolling them once the eligibility waiting period has ended. Given a choice, they will often choose a low level of contributions (perhaps based on affordability) and fail to re-visit their decision as their financial circumstances change — auto-escalation of contributions can help to address this issue.
Step 2: Choosing a record keeper
The next step is the selection of a record keeper that provides custody, record keeping and investment administration services for the plan. Canadian insurance companies, some banks and mutual fund companies offer these services. A record keeper search typically includes:
Developing a request for proposal: This includes detailed specification of the services the employer needs as well as estimates of the number of members, annual contributions and assets to be transferred into the plan. Record keepers require this information to prepare fee estimates.
Soliciting proposals from record keepers: This includes soliciting bids and comparing the relative merits of the record keepers that submit them.
Conducting interviews: It’s a great idea to meet the team and assess which candidate organization offers the best overall fit with yours. Interviews also provide an opportunity for record keepers to showcase their web-based and print-based tools and support for plan members and plan sponsors.
Each record keeper offers a different array of investment funds under the plan so the availability of good quality investment choices is an important consideration in selecting a record keeper.
Step 3: Selecting investment funds
For larger plans, steps two and three can be done simultaneously. For small- to mid-sized plans, a simpler approach is to complete step two first, then move on to the selection of the investment funds to be offered.
The golden rule is to try to keep the investment fund structure as streamlined as possible so as not to complicate the investment decision-making process for employees or create an unduly onerous oversight process for the employer or the retirement committee. Consider the demographic profile of the plan, the expected asset size of the plan and the level of employees’ investment knowledge.
Generally, the smaller the plan, or the lower the level of investment knowledge, the fewer investment choices offered. An increasingly common approach is to offer a series of target-risk or target-date funds for employees who lack the knowledge, time or inclination to be engaged in investment decision-making. For employees who have a higher level of investment knowledge and are more engaged in making investment decisions, a lineup of single-asset class funds could be offered.
This two-tiered approach would then be reflected in the way the plan is communicated to employees. Products to help employees transition into the post-retirement phase can also be considered as part of this process.
Despite best efforts, some employees enrol in a plan but fail to provide investment instructions. Therefore, a default investment option needs to be selected for the plan to which employees’ contributions, and any employer contributions made on their behalf, are directed if they fail to provide instructions. The selection of an appropriate default investment option for long-term retirement saving is an important step in optimizing the effectiveness of a plan.
Step 4: Implementing the plan
Plan implementation includes the following:
• Completion of any forms required by the record keeper to initiate a plan setup process.
• Negotiation of a contract and a service and fee agreement with the record keeper. These documents should be carefully reviewed to ensure they reflect the services requested at the proposal stage and the terms are as favourable as possible. It’s a good idea to have legal counsel review these documents before signing them, as some terms can be negotiated.
• Setting up payroll by working with a payroll service provider to set up the necessary procedures for withholding contributions and monitoring tax-sheltered contribution limits.
• Development of the communication strategy to roll out the plan to employees. Elements typically include: an initial notice to employees the plan is coming; face-to-face meetings with employees to explain the plan and the decisions they will need to make; and a clearly articulated timeline for employees to return all required forms.
• Preparation of the member enrolment package and other member communication materials. This includes enrolment and beneficiary designation forms, a booklet describing the terms of the plan, guidance on how to make investment decisions, a description of each of the investment fund choices including fees, and the investment instruction forms employees must complete. Ensure the information provided is accurate, relevant and engaging.
Employer ownership of the plan should shine through in the rollout process. Employees will be more engaged and value a plan more if it is communicated as a high priority for an organization and seen as a way their employer is partnering with them to help them achieve retirement readiness.
Step 5: Ongoing oversight activities
Under the Joint Forum of Financial Market Regulators’ Guidelines for Capital Accumulation Plans, plan sponsors are expected to formally monitor the plan investments and overall operation of a DC plan at least annually.
Good governance is essential to managing the risks associated with the plan. Consider introducing a formal process to ensure the plan is operated and maintained in a compliant manner, the fees remain competitive and the investment choices offered continue to be of good quality and best-in-class. The review should also include an assessment of evolving market trends and new products and services as a means of ensuring the plan features remain competitive. Any issues arising from the review process should be addressed promptly.
Consider setting up a retirement committee to oversee the plan and ensure the committee has a clear written mandate and rules of operation. It would own the ongoing review process and report to the company’s board at least annually on the status of the plan, and the actions taken to address any issues that have arisen over the relevant period.
A periodic review of member investment behaviour can also provide valuable insight into whether the plan is working well. Far too often, member communications stumble at the starting gate — they are too technical, written from the compliance corner and fail to offer employees a reason to pay attention. Effective member communication cannot be delivered in 30 minutes on orientation day or a single-member enrolment seminar. Sponsors that successfully educate employees to manage their DC plans use campaigns that are strategic, ongoing and tailored to employees and the context. Successful communication campaigns use the right media at the right time to grab attention and articulate a call to action.
Oma Sharma is a Toronto-based partner and leader at Mercer’s DC investment consulting business in Canada. She can be reached at firstname.lastname@example.org.