CPP enhancements might spark some big changes

The increase in Canada Pension Plan benefits and contributions could change plan designs, contributions and benefit formulas of many of the country's other retirement plans, sources said.

The enhancement to the C$316.7 billion ($254 billion) CPP, slated to begin in January 2019, will gradually increase mandatory employer and employee contributions up to 1 percentage point each by 2025, to as much as 5.95% from the current 4.95%. The increase will allow benefits to rise to one-third of pensionable earnings from 25% and raise the maximum annual earnings cap to C$82,700 by 2025 from C$54,900.

With the contribution increase, sources said, employers are likely to treat their overall benefits contribution as a zero-sum game. Plan sponsors will contribute the same total amount, but could reduce their employer-sponsored plan contribution to offset the higher CPP contributions.

Plan sponsors are "taking a step back and saying that CPP expansion gives them pause for thought about three things," said Michael Millns, retirement practice leader, Willis Towers Watson PLC, Toronto, and member of the Association of Canadian Pension Management's national policy committee.

"First, does their pension plan and the government benefit in total align with the employer's philosophy on retirement? Second, they're asking where they are in relation to the market. If their benefits are already above the market and now the benefits of the CPP will be enhanced, they're asking whether (their benefits) should be that high. And third, employers are putting together everything — CPP, Old Age Security (Canada's social security system), the employer's pension plan — and asking if they're providing the appropriate level of benefits to employees. … With all of that, employers are now wondering, 'Where do we go from here?'"

One possibility, sources said, is that the pending CPP expansion could be an opportunity for defined benefit plan sponsors to change their design, possibly to a shared-risk or target-benefit model, where benefits can be decreased in the event funded status drops below 100%, or to terminate the DB plans and replace them with defined contribution plans.

Allan Shapira, managing director, Aon Hewitt Canada, Toronto, said he thinks the greater impact will be on existing defined contribution plans. "Defined contribution sponsors do see benefits as a pie with portions to be divided up," Mr. Shapira said. "I think we will see some reduction in employers' DC contributions to offset their increase in CPP contributions. Also, some employers might say they'll absorb the cost of the contribution increase but instead of taking it from the DC contribution, they'll say it means less money for salary increases. If that happens, that kind of defeats the purpose of CPP enhancement. But in the DB world, I think it'll be difficult for plan sponsors to use this as a lever to change their pension plans."

Jana Steele, partner, pensions and benefits, at the law firm of Osler, Hoskin & Harcourt LLP, Toronto, agreed the CPP change might not lead to a shift among pension plan sponsors to shared risk. "I'm not sure the CPP enhancement would be a tipping point," Ms. Steele said. "It's a company-specific question. There are already many factors involved in going to a shared-risk plan — low interest rates, effects of the 2009 financial crisis, a plan's funding status. ... I think it's wait-and-see. I think people will look at enhancement and ask if that's enough of a reason to make a change."

Added Scott McEvoy, partner with law firm Borden Ladner Gervais LLP, Toronto, "I'm not sure in and of itself that the CPP expansion will lead to pension infrastructure changes; I'd have thought DB plans would move to DC plans and DC plans would grind down their contribution rates. There was a lot of pushback from companies about the CPP expansion. … I'm not sure it means DB will go to shared risk. It'd be more of freezing the DB plan, go to a DC plan; or in an existing DC plan, reducing the contributions."

But what changes are ultimately made will be felt at both public and corporate plans, said Keith Ambachtsheer, director emeritus, International Centre for Pension Management, Rotman School of Management, University of Toronto. "If you know it's mandatory and you're a public-sector employer with a DB plan, what do they do? If you're making additional contributions to CPP and still offer full benefits in your public plan, they'll have higher contributions and higher benefits," he said. "I don't understand why (sponsors) would do this. Public-sector employers have a responsibility to taxpayers to offset the increased contributions in CPP. I would be shocked if they didn't do this reintegration" to recalculate contribution.

As for corporate plan sponsors, Mr. Ambachtsheer said: "They have a whole range of arrangements, from closing their DB plans and starting a DC plan to always having a DC plan to group (registered retirement savings plans) or doing nothing. They'll all have different responses. On the small-employer end that offers no benefits, CPP enhancement will increase employer cost. Do they offset that with lower pay? That's not very likely but it could happen. At the higher end of the scale, those with a DC plan in which they currently match, an employer may consider that with a higher contribution rate to CPP ... they might decide to cut back on their DC plan contribution. And for multiemployer plans, they will eventually have to go back to the bargaining table."

Mr. Shapira of Aon Hewitt said he thought the enhancement is small enough that it might not lead to any plan design changes. "If the contribution amounts to 1% of payroll, is it enough to make plan sponsors change their plan design? The jury's still out on what reaction we'll see. The CPP expansion was designed to be at a level that's not too intrusive," Mr. Shapira said.

The more likely scenario, he said, is that the enhancement will lead some employer-sponsored plans to exclude the CPP from overall benefit calculations and go with a flat rate. "Sponsors are asking if the change is meaningful enough on a benefit level to lead these plans to decide not to integrate," CPP into benefit calculations, Mr. Shapira said. "When integration becomes so complicated, the reaction is, let's just delink it from government benefits. I do think we'll see a little potential delinking from the CPP."

One public pension plan, the C$25.5 billion British Columbia Teachers' Pension Plan, Victoria, is about to switch to flat rates for contributions and benefit accruals on Jan. 1, delinking from the CPP. And while the decision to move to flat rates was 17 years in the making, Joan Axford, board chairwoman at B.C. Teachers, said plan officials always intended to avoid a complicated funding formula integrating CPP contributions and benefits with those of its plan.

"We could step aside and say that whatever CPP does, it affects them, not us," Ms. Axford said. "We're independent from whatever (CPP) would do."

B.C. Teachers was originally intended to shift to flat rates after the plan reached full funding — which it did this year, at 102% — to better serve younger employees, many of whom start part-time and would not be able to qualify under the plan's previous requirements, said Ms. Axford. B.C. Teachers will continue to contribute to the CPP.

Starting Jan. 1, new participants in the B.C. Teachers plan will contribute 12.92% of pay while employers pay 13.23%, according to plan documents. Also, the accrual rate will be 1.85% with no limit to pensionable service, a change from the current 35-year maximum. Participants who have already reached 35 years of service can start contributing again as of Jan. 1.

KPMG Canada, Toronto, has been considering changes in its overall benefits package, Linda Speedy, chief human resources officer at KPMG Canada, said in September at the Association of Canadian Pension Management National Conference. And although the CPP enhancement was not the driver of the review, Ms. Speedy added, "CPP changes will be in scope for what we do" with KPMG LLP's Canadian pension plan. "Stay tuned, we don't know practically what this will mean." Efforts to reach Ms. Speedy for this article were unsuccessful.​