Feds eliminate foreign content cap in pensions

HR highlights from the 2005 federal budget

The federal government’s budget contains a number of initiatives of interest to HR practitioners.

30 per cent foreign content cap lifted for pensions

The budget delivered by Finance Minister Ralph Goodale completely eliminated the foreign property rule investment limit for tax-deferred retirement plans (including pensions plans, deferred profit-sharing plans and registered retirement savings plans) effective immediately.

Consulting firm Hewitt Associates said removing the foreign content investment limit permits greater portfolio diversification for individuals and sponsors, since Canadian markets represent less than three per cent of global market capitalization.

“Because world markets generally do no move together in lock-step, additional diversification across different markets should help to reduce the volatility of an investment portfolio,” said Hewitt in a research advisory.

It suggested that sponsors should reassess or reconfirm the asset mix of their defined benefit pension plans since the removal of the foreign content limit will provide greater investment opportunities in both traditional (such as foreign equities and bonds) and alternative asset classes (such as hedge funds, private equity and infrastructure) which are dominated by foreign providers.

“For pension plans considering increasing their foreign investments, greater attention will need to be given to managing currency exposure,” said Hewitt. “Having investments in other currencies has diversification benefits, but as the level of foreign investment increases, currency risk needs to be considered because pension benefits are paid in Canadian dollars.”

Increase in RRSP contribution limits

The budget will increase the RRSP annual contribution limit to $22,000 by 2010, up from $18,000 in 2005.

The annual dollar limit on contributions to money purchase registered pensions plans (RPPs) will also be increased to $22,000 by 2009, from $18,000 in 2005. Corresponding increases will be made to the maximum pension limit for defined benefit RPPs, bringing it to $2,444 per year of service by 2009.

Retirement plan contribution limits
YearMoney purchase RPP limitDeferred profit sharing limitRRSP limit
2006$18,000 indexed$19,000$9,000 indexed$9,500$18,000$18,000
2007Indexing continues$20,000Indexing continues$10,000$18,000 indexed$19,000
2008Indexing continues$21,000Indexing continues$10,500Indexing continues$20,000
2009Indexing continues$22,000 indexedIndexing continues$11,000 indexedIndexing continues$21,000
2010Indexing continues$22,000 indexedIndexing continues$11,000 indexedIndexing continues$22,000
2011Indexing continuesIndexing continuesIndexing continuesIndexing continuesIndexing continues$22,000 indexed

With regard to the increased dollar contribution limits to RRSPs and money purchase RPPs, Hewitt said employers should consider the following:

Documentation: Review all relevant documentation to ascertain whether the plan contributions are linked to the Income Tax Act (ITA) limitations as opposed to a specific dollar limitation.

For example, if the maximum allowable contribution under a plan refers to the "money purchase limit" under the ITA, as opposed to a specific dollar limitation, contributions to the plan will automatically increase to the proposed limits. If an employer decides not to provide the proposed higher limits, the plan must be amended accordingly. Alternatively, if the plan has a fixed-dollar limit, a decision must be made about whether to increase the limit to the new higher contribution level.

Administration: Ensure systems (such as recordkeeping systems, interactive voice response systems and Internet-based systems) are modified to incorporate the higher limits if necessary. This may involve coordination with the record keeper and/or consultant. Employers who track plan contributions through payroll systems should pay particular attention to administration.

Changes to pension adjustments as a result of the increase in the dollar amount of contributions will require administrative programming changes. Pre-printed forms containing legislative limits must be updated.

Communication: Increased RRSP limits should be communicated to employees, as they may currently be directing savings to after-tax accounts. With the new higher limits, employees may be able to contribute more to their RRSPs.

Defined benefit pension plan limits

Corresponding to the changed RRSP/RPP contribution limits, increases will be made to the maximum pension limit for defined benefit RPPs, bringing it to $2,444 per year of service by 2009.

The limits will be indexed to the average industrial wage growth for subsequent years.

Increased defined benefit limit
YearDefined benefit limit (per year of service)
2006$2,000 indexed$2,111
2007Indexing continues$2,222
2008Indexing continues$2,333
2009Indexing continues$2,444
2010Indexing continues$2,444 indexed

With regard to the increased maximum defined benefit limit, employers should consider the following, according to Hewitt:

Documentation: Employers should review all relevant documentation to determine whether the plan benefits are linked to the ITA limitations, as opposed to a specific-dollar limitation. It must then be decided whether the plan should be amended to allow for the increased limit.

Funding implications: The decision to provide the proposed higher defined benefit limit could lead to higher contribution requirements depending on the plan’s nature and the member group’s demographics.

Because the limit applies to all years of service, there may be an increase in going concern liabilities and an increase in solvency liabilities. If the plan text already provides for increases linked to the ITA limitations, many sponsors may still find that going concern and accounting liabilities increase over what was originally anticipated.

Accounting implications: RPP benefits are subject to maximum limits under the ITA. For employees whose pensions are affected by these limits (generally higher-income earners), employers sometimes choose to offer a higher retirement benefit than is allowable under the ITA limits. Generally, supplementary employee retirement plans (SERPs) are used to fund pensions in excess of the Income Tax Act maximums.

The SERP works together with a defined benefit pension plan to pay the full accrued pension benefit that, without these ITA limits, would be payable from the RPP. Due to the2005 Budget’s increased limit, employers may see a pension expense shift from the SERP to the RPP — because the increased limit will allow the RPP to cover some of the obligations formerly covered by the SERP.

Cash requirements: If the plan has a surplus, it will be reduced if the plan adopts the higher benefit limits. One consequence of a reduced surplus is that the employer’s ability to take a contribution holiday will end earlier and contribution requirements will begin sooner than expected.

Income tax changes

The personal exemption for all individuals will progressively increase each year to $10,000 by the 2009 tax year.

Specifically, the personal exemption amount will increase $100 in 200, $100 in 2007, $400 in 2008 and $600 in 2009.

The amounts for spouses or common law partners, and for wholly dependent relatives, will also increase.

Medical expense changes

The medical expense tax credit definitions will be updated for the 2005 tax year. This will allow more medical and disability-related expenses to be deducted from an individual’s income tax.

New items include medically-prescribed marijuana as well as other more traditional therapies and alterations to enable patients with severe or prolonged mobility impairments to function within their own homes.

“These changes will also apply to the eligible expenses under employees’ health care spending accounts,” said Hewitt.

Disability tax relief

Additional tax relief will be provided to persons with disabilities by:

•expanding the definition of who qualifies for the disability tax credit; and

•expanding the list of disability support services and expenses that can be claimed.

“This is good news for those receiving disability benefits, whether through government programs or employer-sponsored benefit plans,” said Hewitt.

Employment Insurance premiums

The government proposes to introduce a new rate-setting mechanism that is expected to be in place in time to set the 2006 Employment Insurance (EI) rate.

The mechanism will provide for rates to be set at an annual break-even level, which means a rate to generate premium revenues corresponding to expected program costs. In addition, in order to provide premium rate stability through the transition period, the government has committed to ensuring that the rate for the next two years will not exceed $1.95. As a measure of prudence in case legislation is not passed in time, the government proposes to give the Governor-in-Council the authority to set the 2006 EI rate in the fall of 2005.

The EI legislation will be amended to provide the EI Commission with the authority to set the premium rate. In order to limit the pro-cyclical impact on the business cycle and contribute to stability of premium rates, the rate’s maximum change from one year to the next would be limited to 15 cents per year.

This provides protection against sudden large increases in premium rates in the event of an economic downturn. The federal government will have the authority to override the rate set by the commission, if it were in the public interest to do so, through an order-in-council passed no later than Nov. 30 of any year.

The federal government and the Quebec government are negotiating an agreement regarding Quebec’s parental insurance plan. As provided for in the Employment Insurance Act, Quebec proposes to establish a plan that would provide maternity, parental and adoption benefits to residents of Quebec.

EI premium rates in that province would be adjusted to reflect the fact that the federal government would no longer provide these benefits. The federal goverment has indicated that, if an agreement is reached by March 31, 2005, it is prepared to provide transition assistance to the province for implementation of the Quebec plan.

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