Employees ill-equipped to make pension choices

New regulatory principles proposed to address issue

When it comes to making investments for retirement, employers have to do a better job of protecting employees from themselves, according to a national body of financial market regulators.

“What we found as pension regulators is that more and more DC pension plans were offering choices to members,” said Sherallyn Miller, of the Joint Forum of Financial Market Regulators.

The problem is many members don’t know what choices to make, so employers should be required to better assist them.

So-called capital accumulation plans (CAPs) — like defined contribution pension plans, group registered retirement savings plans and employee profit sharing plans — are intended to ensure the financial security of employees in their retirement.

But the joint forum believes many employees are incapable of making informed decisions and therefore are at greater risk of poor returns and diminished savings.

“These decisions affect their retirement income and underscore the importance of access to clear, objective information about the risks and benefits of different investment options,” explained Dina Palozzi, chair of the joint forum and CEO and Superintendent of Financial Services in Ontario.

With that in mind, the joint forum proposed new regulatory principles late last month to protect employees.

New regulations should be instituted to ensure that as employees are given some responsibility for investing their plan savings (in defined contribution pension plans, for example) they must also receive information to understand the risks and implications of the responsibility and be able to make informed decisions. (For a list of recommendations see box below.)

The proposals are also intended to give employers and plan administrators more clarity about their duties and responsibilities.

Many employers are fearful they could be sued by employees whose savings are diminished by bad investment decisions.

But the proposals won’t go far enough to protect employers said Fred Vettese, executive vice-president of the HR and actuarial consulting firm, Morneau Sobeco. While they are well-intentioned and employees need more information when it comes to investing, (see sidebar) they don’t do enough to protect employers who worry about the possibility of being sued for breaching fiduciary responsibility, said Vettese.

“It is hard to quibble with what they are suggesting. But I don’t think it goes far enough in a bunch of ways.” Plan sponsors want clarity, and they want to know they will not be sued for missing some obscure fiduciary responsibility. These proposals don’t give it to them, he said.

“The good corporate sponsors are doing what they can but they are still worried that they are going to end up offside and get sued,” he added.

In the United States, employers know exactly what they have to do to avoid being sued for breach of duty. The proposals from the joint forum give some guidelines but not enough, he said.

Recent research from consulting firm William M. Mercer revealed that more than 80 per cent of members of CAPs have the right to choose how to invest employee contributions and more than 70 per cent can choose how to invest employer contributions.

Employees aren’t sophisticated enough about investments or else they lack the information to make good decisions about what is appropriate for them, Miller said. A lot of employees feel that because the employer is offering the option, it must be sound.

“The common mistake that we see, is that people look at this array of investment choices, are confused by it and go for the most conservative,” said Miller. While an employee would still make money off of that investment, effectively it amounts to a deterioration of benefits over time.

While employers being sued by disgruntled plan members has not been an issue in Canada, there have been cases in the United States. Since 1974, the U.S. has made clear rules about the obligations of plan sponsors in defined contribution pension plans.

The committee considered the U.S. regulations as it prepared it’s proposals. There are so-called safe harbour provisions, where, if the sponsor covers a list of stated requirements, theoretically they can’t be held liable for employees losing money on their investments. However the joint forum does not want employers to ever feel free of fiduciary responsibility. “We say ‘this is reasonable information to provide, but you are not automatically held harmless,’” said Miller.

Besides, legal experts told the forum that employers are unlikely to ever escape some liability even under the “safe harbour” provisions.

“We think that this provides a lot more certainty and a lot more protection for employers than they have already,” said Miller.

Aside from not giving employers enough direction, Vettese said any new regulatory principles should replace other layers of regulations and not simply be added as another layer.

And the joint forum should also be careful their proposals don’t make it too onerous to operate a DC plan.

That is what happened with defined benefit plans in the late ’80s and it’s one of the reasons sponsors started to make the switch to DC plans, he said. The possibility exists that if DC plans do become too difficult to manage, employers could decide not to offer any plan at all.

Miller said they were mindful of those concerns. “One of the things that we don’t want to do is make the regulations too burdensome.” But they also want to make sure employers adhere to their fiduciary duty to make sure the choices for employees are understood and good healthy investment choices are being made.

The Joint Forum of Financial Regulators is calling for comments and suggestions on its proposals until July 31, and will then sit down to review input and revise their proposals. If a broad consensus is reached, the forum will draft a guideline. While it would still just represent the views of the regulators, it will be taken to the provincial governments to determine how the proposals will be utilized.

To read the full story, login below.

Not a subscriber?

Start your subscription today!