Canadian government looks at pension guarantee fund

OTTAWA -- The Canadian Department of Finance is floating the idea of a federal pension benefit guarantee fund, but the move is not endorsed by many experts.

The department's aim, in issuing a recent discussion paper, is to find ways to secure the retirement benefits of employees, in the event of a corporate bankruptcy or insolvency. The department, in the paper, also asked for input from the retirement industry on how to strengthen the legislative and regulatory framework for defined benefit plans registered under the Pension Benefits Standards Act of 1985.

While private pension plans are voluntary, they must generally be registered either federally or provincially. Private pension plans established for employees working in areas that fall under federal jurisdiction are subject to the pension law. The act covers about 1,200 pension plans; 428 of the federal plans are defined benefit plans.

"There is a broad range of challenges facing federally registered defined benefit pension plans in Canada," says an official with the Department of Finance who asked not to be identified. "Recognizing that pension reform is a complex issue that requires input from many stakeholders, the department is releasing this discussion paper at the present time to give as many participants the opportunity to put forward their views.

"So, in brief, we want the pension legislation to stay current. It was last reviewed in the mid-1990s. It has been 10 years already, so it's time."

The official said comments would be accepted until Sept. 15; the department then expects to develop more specific proposals.

However, experts contend the potential drawbacks of a pension guarantee fund outweigh the possible benefits. "There is no way of operating a self-supporting guarantee fund," said Michel Methot, Quebec chair for the Association of Canadian Pension Management. The ACPM is a national association that lobbies for policies that promote the growth and health of Canada's retirement income system.

"Governments should think carefully before moving to a (fund) and learn from other jurisdictions. All the existing guarantee funds are insolvent," he added.

The ACPM issued a report on Aug. 24 that urged a substantial reworking of Canada's pension fund laws but did not endorse the guarantee fund.

In March 2004, the Ontario Pension Benefits Guarantee Fund %BE; the only such fund in Canada %BE; had a deficit of more than C$100 million (US$83 million). In September 2004, the U.S. Pension Benefit Guaranty Corp. reported a deficit of US$23 billion.

"The experience of these jurisdictions demonstrates that once in place, guarantee funds are not self-supporting," said Mr. Methot from his Montreal office.

Finn Poschmann, associate director of research at the Toronto-based C.D. Howe Institute, a Toronto-based economic and social think tank, noted another risk. "In the presence of a (guarantee fund), when a company gets in trouble, management knows that they can lay off pension costs to the fund. Those costs would otherwise be a liability for the firm and would remain an issue to be confronted in managing a bankruptcy. The presence of the fund thus changes the behavior of the firm — and of employees, and may encourages the firm and employees to pursue riskier strategies when bargaining the terms of a workout," he said.

Federally regulated defined benefit plans have a total of C$89 billion in assets; the largest 10 federally regulated DB plans have $56 billion in total assets.

"It might be difficult to efficiently spread the insurance risk in a pension benefit guarantee fund at the federal level because federally registered pension plans account for only 10% of total pension plan assets in Canada," the Department of Finance official said.

The discussion paper acknowledged there would be an increase in cost to plan sponsors through insurance premiums. This additional cost could contribute to the shift to defined contribution plans, according to the paper. There is also a risk the guarantee fund would have insufficient assets to cover its pension liabilities, which would lead to pressure for government funding, the extent of which could have broader implications for government policies and the economy, the paper noted.

"The biggest (guarantee fund) is in the U.S., and it is carrying a massive set of liabilities," said Mr. Poschmann. "The experience there, and in Ontario, should make the Canadian government cautious in evaluating the need for a federal program."

The idea of creating a guarantee fund also was panned by consultants.

"The government is just throwing the idea out there and seeing how the industry reacts," said Paul Purcell, retirement practice leader at Mercer Human Resource Consulting in Toronto. "It would be a bad idea for the federal government to put it in for the federally regulated plans.

"In general, (such funds) are a bad idea, the way that they have been set up, because they encourage inappropriate behaviors. Either the healthy pension plans subsidize the unhealthy pension plans… or, if the guarantee funds run out of money…then it's going to fall back on the taxpayers. Why should the taxpayers have to pick up the cost of covering pension plans for private companies?"

He supports a stronger framework %BE; such as letting companies build bigger surpluses %BE; thereby canceling the need for a pension benefit guarantee fund in the first place.

He also maintains that companies whose plans are in deficit will resort to lottery-like investment risks in an attempt to pay off the debt and, if the jackpot doesn't materialize, dump the burden on the guarantee fund.

Patrick Walsh, president of SEI Investments Canada, in Toronto, considers the implementation of a guarantee fund to be a fairly marginal issue because very few funds are regulated at the federal level; most are provincial.

"The question of a guarantee fund is a tricky one. On the one hand, I think that everyone likes the idea that there will be some sort of safety cushion. But, the safety cushion should be provided by proper funding of the plan right from the start."