Contribution holidays a thing of the past
For years the pension plan at Edmonton-based PCL Construction was in such good shape that the company didn’t have to make contributions.
That changed this year, said Dennis Wiens, director of HR services. “We have budgeted about seven per cent of payroll for contribution increases.” PCL may be getting off easy.
Pension plans are, and will for some time, be taking a big bite out of the bottom line at many Canadian organizations, according to pension experts.
Three years of dismal stock market performances have left many pension plans underfunded, and sponsors will feel pressure to spend extra money — as much as 20 per cent of payroll — to restore plans to fully funded status. By one measure, Canadian pension plans are $225 billion in arrears.
“Most plans are facing a deficit,” said Michel St-Germain, a Montreal-based pension expert with Mercer Human Resource Consulting. Typically, sponsors of a defined benefit pension plan are looking at about a 20 per-cent deficit. In other words, plan assets are about 80 per cent of projected future liabilities. In many cases this is going to mean contribution increases, he said. “Employers, in order to meet the regular cost of the plan and the disclosed deficit, would see an increase in contributions to about 15 or 20 per cent of payroll.”
“Overall, we think the pension system is about 85 per cent funded,” said Patrick Longhurst, a Toronto-based actuary with HR consulting firm Watson Wyatt.
In a typical organization, current service contributions of 10 per cent of payroll are required to fund a pension plan. If a shortfall is being made up, contributions of 15 or 20 per cent of payroll wouldn’t be unusual, he agreed.
This is a big change from a few years ago when a booming stock market made surpluses common, and many sponsors were on contribution holidays. Some organizations are just taking the hit and paying the extra, said St-Germain, but others are looking for alternatives to defray the deficit.
Some sponsors are asking employees to contribute more to the plan. Others are scaling back benefits or freezing plan improvements. “Many have in the past increased benefits for inflation. They may be saying, ‘Sorry, we can’t do that now that we have a deficit.’” Still others are putting off any adjustments for a while in the hopes the markets will rebound.
Plans sponsors can also expect changes to pension plan regulations in the months ahead.
So far the most noise is coming from the federal Office of the Superintendent of Financial Institutions (OSFI), said St-Germain. (OSFI oversees all 1,200 pension plans in the federal and federally regulated sector.)
It seems likely sponsors will be required to do more in the way of disclosure, St-Germain said. Sponsors will have to be more transparent about the funding status of a plan and any deficit that exists.
In a speech last month, Nick Le Pan, Superintendent of Financial Institutions, said his office is increasing the frequency of “stress tests” to gauge the health of plans, from once a year to every six months. Full valuations are done every three years.
Stress testing done since December 2002 revealed that of the 370 DB plans under the purview of OSFI, 177 were not fully funded. Of those, 12 were still taking contribution holidays. They were ordered to immediately resume making contributions, inform plan members about the funding deficit and remind employees that contribution holidays had been taken.
In provincial jurisdictions, the feeling seems to be that it is important not to act as aggressively as OSFI is, said St-Germain. Fortunately, provinces are not having “knee-jerk reactions,” he said.
In most cases, sponsors will be able to make up the pension shortfall, said Longhurst. They’ll simply have to make the contribution increases and wait for the markets to recover.
However, if the organization is already on shaky ground, being forced to make up a pension shortfall could be enough to sink a firm.
Air Canada recently cited a pension plan shortfall as a major factor behind its filing for protection from creditors.
According to OSFI, which oversees the Air Canada plan, as of 2001, the pension plan had a surplus of about $915 million, and even in 2002 there was no “significant deficit.” But by the end of January, Air Canada said its plan was underfunded by about $1.3 billion.
Steve Bonnar of Towers Perrin said uncertainty about the ownership of pension surpluses, particularly in Ontario, discourages plan sponsors from running up surpluses during good times which would offset the negative impact of a withering stock market. (The pension industry in Ontario is still awaiting resolution to the long-standing Monsanto dispute over the ownership of pension surpluses. For more information click on the "Related Articles" link below.)
“They don’t want to be in a position where they generate a surplus and then it is given away,” he said.
Suggestions that pension shortfalls are a result of plan sponsors taking unnecessary risks are mostly misguided, Bonnar said.
Sponsors have been fairly responsible. Nobody expected the stock markets to perform as badly as they have in the past three years, he said. However, a new pension risk management model may be in order, he said. “That does not mean the elimination or risk, but it means having as deep an understanding as possible about mismatched assets and liabilities.”
A typical private-sector pension plan represents 15 or 20 per cent of the value of the organization. “If they were managing a subsidiary that was that big they would be spending a lot of time managing it,” he said. They need to be spending as much time managing their pensions.
Meanwhile, members of defined contribution pension plans have also seen their savings take a hit. But surprisingly they seem to be saying very little about it, said St-Germain. There aren’t many signs of employees panicking or demanding changes to their plans. That may be because of offsetting factors. People in DC plans who have houses may have less money in their plan, but they have seen the value of their houses go up in recent years, he said.
Louis Tasse, director of HR for Montreal-based manufacturing firm Velan Valve, said the returns for its group RSP have been “very low, if not negative.” But surprisingly, he has heard few complaints from employees. Members have a pretty good understanding of how the markets act and they expect a recovery will come in time. They’re willing to be patient, he said.
Legally, the organization is not responsible for employee retirement planning but “we have a moral obligation” to be involved, so the company has increased communication with employees about the plan through e-mail and notices posted around the organization, Tasse said.
Velan Valve is reluctant to increase employer contributions while the RSP is underperforming. The organization, too, is suffering in a slowing economy, and doesn’t want employees to expect increased contributions as an entitlement.
That changed this year, said Dennis Wiens, director of HR services. “We have budgeted about seven per cent of payroll for contribution increases.” PCL may be getting off easy.
Pension plans are, and will for some time, be taking a big bite out of the bottom line at many Canadian organizations, according to pension experts.
Three years of dismal stock market performances have left many pension plans underfunded, and sponsors will feel pressure to spend extra money — as much as 20 per cent of payroll — to restore plans to fully funded status. By one measure, Canadian pension plans are $225 billion in arrears.
“Most plans are facing a deficit,” said Michel St-Germain, a Montreal-based pension expert with Mercer Human Resource Consulting. Typically, sponsors of a defined benefit pension plan are looking at about a 20 per-cent deficit. In other words, plan assets are about 80 per cent of projected future liabilities. In many cases this is going to mean contribution increases, he said. “Employers, in order to meet the regular cost of the plan and the disclosed deficit, would see an increase in contributions to about 15 or 20 per cent of payroll.”
“Overall, we think the pension system is about 85 per cent funded,” said Patrick Longhurst, a Toronto-based actuary with HR consulting firm Watson Wyatt.
In a typical organization, current service contributions of 10 per cent of payroll are required to fund a pension plan. If a shortfall is being made up, contributions of 15 or 20 per cent of payroll wouldn’t be unusual, he agreed.
This is a big change from a few years ago when a booming stock market made surpluses common, and many sponsors were on contribution holidays. Some organizations are just taking the hit and paying the extra, said St-Germain, but others are looking for alternatives to defray the deficit.
Some sponsors are asking employees to contribute more to the plan. Others are scaling back benefits or freezing plan improvements. “Many have in the past increased benefits for inflation. They may be saying, ‘Sorry, we can’t do that now that we have a deficit.’” Still others are putting off any adjustments for a while in the hopes the markets will rebound.
Plans sponsors can also expect changes to pension plan regulations in the months ahead.
So far the most noise is coming from the federal Office of the Superintendent of Financial Institutions (OSFI), said St-Germain. (OSFI oversees all 1,200 pension plans in the federal and federally regulated sector.)
It seems likely sponsors will be required to do more in the way of disclosure, St-Germain said. Sponsors will have to be more transparent about the funding status of a plan and any deficit that exists.
In a speech last month, Nick Le Pan, Superintendent of Financial Institutions, said his office is increasing the frequency of “stress tests” to gauge the health of plans, from once a year to every six months. Full valuations are done every three years.
Stress testing done since December 2002 revealed that of the 370 DB plans under the purview of OSFI, 177 were not fully funded. Of those, 12 were still taking contribution holidays. They were ordered to immediately resume making contributions, inform plan members about the funding deficit and remind employees that contribution holidays had been taken.
In provincial jurisdictions, the feeling seems to be that it is important not to act as aggressively as OSFI is, said St-Germain. Fortunately, provinces are not having “knee-jerk reactions,” he said.
In most cases, sponsors will be able to make up the pension shortfall, said Longhurst. They’ll simply have to make the contribution increases and wait for the markets to recover.
However, if the organization is already on shaky ground, being forced to make up a pension shortfall could be enough to sink a firm.
Air Canada recently cited a pension plan shortfall as a major factor behind its filing for protection from creditors.
According to OSFI, which oversees the Air Canada plan, as of 2001, the pension plan had a surplus of about $915 million, and even in 2002 there was no “significant deficit.” But by the end of January, Air Canada said its plan was underfunded by about $1.3 billion.
Steve Bonnar of Towers Perrin said uncertainty about the ownership of pension surpluses, particularly in Ontario, discourages plan sponsors from running up surpluses during good times which would offset the negative impact of a withering stock market. (The pension industry in Ontario is still awaiting resolution to the long-standing Monsanto dispute over the ownership of pension surpluses. For more information click on the "Related Articles" link below.)
“They don’t want to be in a position where they generate a surplus and then it is given away,” he said.
Suggestions that pension shortfalls are a result of plan sponsors taking unnecessary risks are mostly misguided, Bonnar said.
Sponsors have been fairly responsible. Nobody expected the stock markets to perform as badly as they have in the past three years, he said. However, a new pension risk management model may be in order, he said. “That does not mean the elimination or risk, but it means having as deep an understanding as possible about mismatched assets and liabilities.”
A typical private-sector pension plan represents 15 or 20 per cent of the value of the organization. “If they were managing a subsidiary that was that big they would be spending a lot of time managing it,” he said. They need to be spending as much time managing their pensions.
Meanwhile, members of defined contribution pension plans have also seen their savings take a hit. But surprisingly they seem to be saying very little about it, said St-Germain. There aren’t many signs of employees panicking or demanding changes to their plans. That may be because of offsetting factors. People in DC plans who have houses may have less money in their plan, but they have seen the value of their houses go up in recent years, he said.
Louis Tasse, director of HR for Montreal-based manufacturing firm Velan Valve, said the returns for its group RSP have been “very low, if not negative.” But surprisingly, he has heard few complaints from employees. Members have a pretty good understanding of how the markets act and they expect a recovery will come in time. They’re willing to be patient, he said.
Legally, the organization is not responsible for employee retirement planning but “we have a moral obligation” to be involved, so the company has increased communication with employees about the plan through e-mail and notices posted around the organization, Tasse said.
Velan Valve is reluctant to increase employer contributions while the RSP is underperforming. The organization, too, is suffering in a slowing economy, and doesn’t want employees to expect increased contributions as an entitlement.
