Longer lifespans create pension pandemonium

New longevity numbers reiginite the defined benefit versus defined contribution pension debate

Canadians have been drinking from the fountain of youth, according to a new report indicating that working men and women are living longer. While the news of our longevity is welcome, a longer lifespan could signal a shift for the pension plan as we know it.

For the first time, the Canadian Institute of Actuaries (CIA) recently commissioned studies to determine mortality rates of Canadians. Whereas previous calculations were based on mortality rates of people in the United States, the CIA studies indicated Canadians are living longer.

The average 60-yearold Canadian man is now expected to live for an additional 27.3 years, up 2.9 years. The average 60-year-old woman is expected to live an extra 2.7 years, up to 29.4 additional years.

That increase in life expectancy can spell out an immediate increase in pension liabilities from five to 10 per cent. Typically, that could mean saving earlier or working longer.

Though the CIA released its report at the end of July, longer lifespans have been on the radar of key pension players for quite some time. Keith Ambachtsheer, the president and founder of KPA Advisory, a pension plan firm in Toronto, said the CIA report has been widely discussed in actuarial circles, and now it is finally out in the open.

“The rule of thumb is that every year increase in longevity increases pensionliabilities being equal to three or four per cent. So if you get three years dumped on you, that’s a 10 per cent increase in liability,” he explained. “How do we redesign these plans so they’re sustainable in the longer term?”

The study also indicated that those hired in the public sector tend to live longer lives. Of particular concern is that most of these employers offer defined benefit (DB) pension plans, whereas most private sector companies offer defined contribution (DC) plans. Ambachtsheer said that could see the public sector doling out more cash for DB plans.

“The public sector is different in that pretty much all of their employees — whether federal, provincial or municipal — still have some sort of defined benefit plan that’s open. So now you have to look at, well, how do these plans get funded?” he said. “Even before these new longevity tables came along, there was already a broad sense that the current formulas in the public sector DB plans have to be changed, because they’re too expensive.”

Take the Ontario Teachers’ Pension Plan, for instance, which has been using its own mortality tables to project pension costs for decades. Jim Leech, the CEO of the teachers’ pension plan, said its DB plan has set them back just under $10 billion in the last 10 years — something other employers will have to bite the bullet and do in one quick shot.

“We started accelerating, or lengthening, out the longevity assumption about a decade ago. We’ve already absorbed the entire increase in longevity,” Leech said. “It meant an increase in the liability of approximately $8 billion, just under $10 billion. We already took the action in small bites, it wasn’t all that painful. (Employers) are going to have to do it now, they don’t have a choice. They’ll have to do it in one move, whereas we did it over a decade in three moves.”

As the age-old debate of DC versus DB rages on, Leech said common sense dictates that all types of workers will have to start saving more or working longer.

“The fact of the matter is the longevity extension impacts everybody. Whether you’re in a defined benefit plan or you’re just trying to save through a defined contribution plan or RRSPs, the fact that you are going to live longer means you’ve got to save a lot more,” he went on to say. “There just has to be more, because the day you retire, the amount of money you need to finance your retirement has gone up — no matter how you cut it. So you either have to save for longer, which means the retirement age goes up, or save more.”

Based on the Ontario teachers’ mortality tables, the average teacher in the 1970s worked for 27 years and retired for 20 years. Today’s tables indicate that same group works for 27 years and retires for 31 years. And financing those extra years can mean quite a significant chunk out of the wallets of both employers and their employees.

For unions, that means plan redesign and sustainability will have to be brought to the bargaining table.

Paul Moist, national president of the Canadian Union of Public Employees (CUPE) said the mortality tables do not spell the end for DB plans, but rather that the government should gradually expand the Canada Pension Plan (CPP) to help ease some of the pressure on workers and employers.

“We (want) a gradual expansion of the CPP — nobody gets something for nothing, we’ll have to pay for it. The so-called pooled retirement pension plan that the Harper government has come up with is a non-solution, it’s not compulsory. In fact, employees can opt out,” Moist said, adding that CUPE members are being advised they will likely have to pay a bit more and be open to pension plan redesign.

Further complicating the matter is that many in the public sector are unable to retire later in life. Think construction workers, whose jobs are much more physically demanding than, say, the job of a bank teller.

As such, the solution may lie in a hybrid between a DC plan and a DB plan. Ambachtsheer points to the RCMP’s pension plan and the Healthcare of Ontario Pension Plan, both of which have a 50-50 cost-sharing program.

Another trend he’s observed is that employers are passing the buck to insurance companies, such as Sun Life Financial or Prudential. That way, pensions are off the balance sheet of the employer — but the cost for which an insurer is willing to take over can get pricey.

The Ontario teachers’ pension takes the best from both worlds, according to Leech, who explained that while its base pension is guaranteed, the inflation protection is conditional.

“The unfortunate part of the debate that’s gone on, pretty well to-date, has been between defined benefit and defined contribution. It’s as though it’s got to be one or the other,” he said.

“The difference between the two is where the risk lies. Defined benefit plans, the risk lies with the sponsor; defined contribution plans, the risk lies entirely with the participant. So it all depends on whose glasses get put on when you look at this problem.”

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