Two Approaches to Solvency Funding Reform: A summary of Ontario’s Consultation Paper
September 19, 2016
Ontario is currently in the process of reviewing solvency funding rules for single employer defined benefit (“DB”) pension plans under the Pension Benefits Act. On July 26, 2016, the Ministry of Finance released a “Review of Ontario’s Solvency Funding Framework for Defined Benefit Pension Plans” Consultation Paper soliciting feedback on a number of potential reforms for solvency funding.
By way of background, economic conditions, including persisting low interest rates after the 2008 global recession, have resulted in successive rounds of temporary solvency relief for DB plans in 2009, 2012, and 2016. The Consultation Paper identifies the need for a review of funding rules to ensure they are appropriate for different economic conditions, including those currently affecting DB plans. The Paper contemplates the proposed reforms applying to both private plans and “broader public sector” pension plans.
Background on Funding Rules
The existing funding rules use two types of funding valuations to determine contribution requirements and solvency. Going Concern Funding assumes a plan will continue indefinitely. Solvency Funding calculates the funding required to pay benefits if a plan were to wind-up on the valuation date. The Consultation Paper proposes two general approaches to reform. Many of the proposed options resemble policy reforms already adopted in jurisdictions across Canada.
Approach A: Modified Solvency Funding Rules
Approach A would maintain the principle of solvency funding, but would modify existing requirements to address certain concerns. The Consultation Paper proposes the following options, one or more of which might be implemented:
- Average Solvency Ratio: Plans would be required to fund a deficiency determined by average solvency ratio as opposed to a solvency deficiency in any one year.
- Lengthened Amortization Period: The period of time over which solvency deficiencies must be amortized would be lengthened (e.g. to 10 years).
- Consolidation of Solvency Deficiencies: Solvency deficiencies would be consolidated and re-amortized at each valuation (i.e. a “fresh start”).
- Funding a Percentage of the Solvency Liability: Solvency funding targets would be adjusted from 100% to a reduced percentage of the solvency liability. Changes to the PBGF might be made to mitigate decreased benefit security.
- Solvency Funding for Certain Benefits Only: Normal retirement benefits would be funded on a going concern basis only. Changes to the PBGF might be made to mitigate decreased benefit security.
- Solvency Reserve Accounts (SRAs): Sponsors would be allowed to withdraw some surplus through the use of SRAs, up to a prescribed maximum, where the solvency position exceeds a threshold in excess of 100%.
- Letters of Credit (LOCs): A higher limit on the use of LOCs by sponsors would be allowed (current limit is 15%).
Approach B: Eliminate Solvency Funding Rules and Strengthen Going Concern Funding:
This approach would strengthen going concern funding requirements for DB plans, while eliminating the current solvency funding rules. The following options are proposed:
- Require a Funding Cushion (Provision for Adverse Deviation): Plans would be required to set aside certain assets in excess of a plan’s liabilities before the plan would be allowed to take actions that could weaken its funded position.
- Shortened Amortization Period: Special payments to fund going concern liabilities would be amortized over a period shorter than 15 years.
- Restrictions on Return on Investment Assumptions: Regulations would require that plan actuaries not exceed a maximum best estimate interest rate.
- Solvency Trigger for Enhanced Funding: Solvency would continue to play a role in funding through use of the solvency position to determine if additional funding is needed.
- Enhance the PBGF: The PBGF would be required to fund larger claims in the event of a wind-up of an insolvent employer.
Additional Complementary Reform Measures:
The Paper also proposes additional measures that could be implemented alongside either of the two approaches:
- Annual Valuation Reports: Plans would be required to file annual actuarial valuation reports disclosing going concern and/or solvency financial positions.
- Written Policies: Plans would be required to establish and file funding and governance policies, in addition to the SIP&P.
- Commuted Values: The commuted value entitlement on termination would be modified to be more reflective of the underlying risk associated with the pension benefit.
- Restrictions on Contribution Holidays and Benefit Improvements: Contributions holidays could be permitted only if a PfAD was fully funded.
- Administrator Discharge for Annuity Buyouts: Plan administrators would be discharged from certain obligations upon the purchase of annuities from insurers.
- The PBGF: Benefits guaranteed by the PBGF would be increased above $1,000.
Many of the proposed options could have significant implications with respect to benefit security and/or the obligations of plan administrators.
Consultations with the stakeholders and experts are intended to continue through fall 2016, with written submissions on issues relating to funding accepted from all interested parties until September 30, 2016.
Pension and Benefits