Plan sponsors

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As a plan sponsor, you want to play a role in helping your employees save for retirement – but you also know that the pension landscape is changing. Many plan sponsors and plan members are aware that funding and volatility challenges to DB plans increase risk for all stakeholders. What they may be less aware of, particularly for plan members, is the extent of those risks. Further, many DC plan sponsors do not know the extent of the retirement readiness of their plan members. So, whether you have a DB or a DC plan, such risks could create serious problems for both you as the plan sponsor and for your plan members. Understanding the risks your plan may be facing, as well as which core strategies you can employ to mitigate these risks and maximize the value of plan benefits for the amounts available from funding, is crucial to your organization’s ability to meet its human resource and financial goals.

Recognizing risk

In speaking with many organizations, it’s clear that a large number of DB plan stakeholders have little real understanding of the risk they are carrying in their pension fund and how this risk has been growing as their plan has matured. Over time, the size of DB plan assets and obligations increases significantly. In fact, unless growth in the plan sponsor’s business has been keeping pace, the size of the pension plan will have become much larger relative to the size of the business than in the past. In this scenario, any significant deterioration in the funded position of the plan could have a serious impact on profit / loss and corporate cash flow, potentially threatening the survival of the business. While the sponsor of a young pension plan may be able to deal with a given level of volatility in funding, the sponsor of a more mature plan will be much more impacted by the identical scenario.

The first step to managing risk is to understand the level of that risk and determine whether it’s within your tolerance level. If it isn’t, then you will want to consider alternatives. Morneau Shepell’s Pension Risk Assessment can help you understand your risks.

Managing risk

One risk management strategy is to share the risk as broadly as possible while being respectful of existing pension regulations. Target Benefit Plans (TBPs) (i.e., broad definition) offer that opportunity. One key advantage of TBPs from a plan sponsor perspective is that contributions can be kept relatively stable as TBPs are monitored on a going-concern basis and are typically exempt from solvency funding obligations.

An important area that remains to be clarified is the appropriate accounting treatment for TBPs. While the cap on contribution requirements would seem to be consistent with a cash / DC accounting treatment (as currently applies to MEPPs), the accounting profession has yet to provide definitive guidance on this matter. For many plan sponsors (particularly those in the private sector), it is critical to resolve this issue.

In addition, given the current focus on retirement savings in the media, employees are becoming more aware of the value of a pension. A TBP could prove more effective in recruiting and retaining workers.

The primary disadvantages of TBPs from a plan sponsor perspective are as follows:

  • Plan member communication may be more challenging than with a DB plan. Members must understand that certain benefits can be reduced in certain situations.
  • There is a greater governance burden as more formal funding and benefit policies must be established and maintained in order to administer TBPs.
  • The ability to benefit from future plan surpluses is reduced or eliminated as contribution reductions are unlikely or unavailable.

FAQs

  • What type of plan sponsor is likely to want a Target Benefit Plan?

    The most likely candidates for TBPs will be organizations that wish to provide a secure and relatively certain post-retirement income for their employees at an affordable and reasonably stable cost. This may include organizations that wish to, or need to, close their existing DB plans because of sustainability issues, but who do not want their employees to bear the individual risk associated with DC plans. Some DC plan sponsors may also consider TBPs, given the difficulty in educating members on their DC investment options. However, because TBPs are currently receiving so much attention, all pension plan stakeholders – sponsors, members, unions, governments, and retirees – should become more informed about them.

  • Do Target Benefit Plans offer any advantages for DC plan sponsors?

    DC plans sponsors may find TBPs appealing, especially if they would like to help members achieve more predictable retirement incomes, reduce their exposure to swings in investment markets and eliminate the risk of outliving their money. TBPs may also prove to be valuable HR tools for the recruitment and retention of quality employees in an increasingly competitive marketplace for talent.

  • Why would plan members be in favour of a Target Benefit Plan?

    In a properly constructed TBP, plan members can expect a relatively secure and stable post-retirement income at an affordable and predictable pre-retirement cost. In addition, members share investment and longevity risk with each other and the plan sponsor. Thus, retirees don’t have to worry about outliving their savings and plan members don’t have to concern themselves with making investment choices, both while they are working and after they retire.

  • Isn’t it premature to talk about TBPs when they’re currently only an option in Alberta, British Columbia and New Brunswick?

    Many Canadian jurisdictions are considering TBP legislation. In fact, the federal Department of Finance issued a consultation paper soliciting input on TBPs for federally-regulated plans, and Ontario has published a consultation paper on target benefit MEPPs.) The “Legislation” section of this site provides you with the latest updates on the status of TBPs across Canada.

    Discussing TBPs at this point will also help plan sponsors and other stakeholders understand what TBPs are, how TBPs could apply to their situation, and how legislation needs to evolve in order for TBPs to be particularly effective. In addition, plan sponsors can assess the risks their plan is facing now using Morneau Shepell’s Pension Risk Assessment. TBPs are not the only solution available to plan sponsors and members, though they are certainly a model worth considering.

What Morneau Shepell can do for you

Don’t take a chance with your pension plan – understand the risks and learn how you can manage them in the most beneficial way for all your stakeholders. Morneau Shepell helps organizations like yours clarify pension plan objectives, assess the health of your plan, evaluate stakeholders’ risk tolerance, and determine whether the plan is strategically positioned to meet your goals. We pride ourselves on prioritizing collaboration and efficiency and will ensure that all your stakeholders have an educated voice at the table. Want a pension plan that is built to last? We can help you get there.

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