Québec Releases Draft Pension Funding Relief Measures

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1 Special Issue May 12, 2009 Québec Releases Draft Pension Funding Relief Measures On May 6, 2009, the government of Québec released a draft version of an eagerly anticipated regulation aimed at reducing the impact of the financial crisis on pension plan sponsors. The draft Regulation respecting measures to reduce the effects of the financial crisis on pension plans covered by the Supplemental Pension Plans Act (Regulation) follows an announcement made by Minister Sam Hamad on December 17, 2008 regarding the government s intention to provide sponsors of defined benefit plans with relief regarding their funding obligations. The Regulation is intended to supplement the funding relief measures contained in Bill 1, which was adopted on January 15, (See our January 16 Special Issue of Ready.) Pension Plans Affected Only pension plans that are registered under the Supplemental Pension Plans Act are covered by the Regulation. It does not apply to plans that fall under the supervision of the pension regulator of another province or the Office of the Superintendent of Financial Institutions Canada, even though they may have members in Québec. As the funding relief measures contained in the Regulation apply exclusively to solvency rules, they have no practical effect for plans where the employer is a municipality or university because such plans are already exempt from these rules. Funding relief measures that apply specifically to municipalities and universities are to be published in June. Temporary Measures: The proposed new measures are temporary, which was the case with the ones adopted in 2005 within the context of Bill 102. They may be applied to the first actuarial valuation report with a valuation date after December 30, The main effect of the measures will be to reduce the contributions that would otherwise be required in 2009, 2010, and To offset this reduction, unless the pension fund enjoys more than significant gains during this 3-year period, the proposed measures will have the effect of substantially increasing contributions required during the subsequent 5-year period (i.e., January 1, 2012 to December 31, 2016). Choice of Measures The government is giving each plan sponsor the ability to choose the specific funding relief measures that the plan sponsor believes will best serve to reduce its financial burden with respect to the pension plan, in the context of the financial crisis. One optional measure, which is already in place as a result of Bill 1, is early application of the new CIA standard. The decision to invoke this measure would be made by the employer. In the case of a multi-employer plan, all participating employers would have to approve the use of this measure before it could be implemented. page 1

2 The draft Regulation contains three additional optional measures. If a plan sponsor takes advantage of one or more of these three new measures, the provisions of Bill 30 will apply earlier than they otherwise would have; the most significant consequence is that actuarial valuations regarding the plan will have to be prepared annually rather than every three years. The advanced application of Bill 30 provisions will not apply if the only funding relief measure implemented is early application of the CIA standard. In the case of a multi-employer plan, the decision to take advantage of one or more of the three new measures is to be made by the person or body that is authorized to amend the plan, rather than all employers. The main features of the new measures are summarized below. However, decisions should not be made solely on the basis of this material; it is only a summary and plan-specific details must be taken into consideration before a decision regarding the application of the measures is made. In order to determine which of the measures outlined in this Special Issue of Ready may be appropriate for your organization, contact your Aon consultant. 1. Asset Smoothing Since 1990, assets must be valued at their liquidation value for the purposes of valuation on a solvency basis. According to this approach, the full value of losses incurred since the last valuation would normally be recognized and capitalized starting from the valuation date. The draft Regulation proposes that the value of assets be determined by smoothing the short-term fluctuations in the market value of assets over a maximum of 5 years, for a temporary period ( ). In simpler terms, this would allow losses incurred in 2008 to be recognized at a rate of 20% per annum beginning on December 31, 2008 for capitalization purposes, rather than at 100% as of that date. The draft Regulation also proposes that this new method be applied for the entire duration of the temporary measures, specifically until the end of 2011 in most cases. However, it will be necessary to revert to the market value approach beginning with the compulsory December 31, 2011 valuation. A somewhat surprising feature of the draft Regulation is that it prohibits any change to the asset valuation method used at the time of the last actuarial valuation on a funding basis that would increase the asset value. As a result, if the actuary did not use asset smoothing at the time of the last valuation, the liquidation value of assets will have to be used for purposes of the December 31, 2008 funding valuation and therefore 100% of the losses incurred in 2008 will have to be recognized beginning on that date. 2. Consolidation of Previous Deficiencies This measure allows a plan sponsor to combine most of the previous deficiencies, along with the new solvency deficiency, into a single deficiency. This consolidation will make it possible to reamortize the previous deficiencies considered for solvency purposes over a longer period. In the case of amendments to the plan that affect liabilities, the resulting deficiency can also be consolidated in this manner, unless the amendment was made (i.e., decided upon by the party or parties empowered to amend the plan) after December 30, It is important to remember that, under Bill 30, deficiencies are consolidated at the time of each actuarial valuation on a funding basis. For those who take advantage of the relief measures contained in the Aon Consulting Ready Special Issue May 12, 2009 page 2

3 Regulation, Bill 30 will take effect early and, consequently, consolidation of the deficiencies will be carried out on both a funding basis and a solvency basis. 3. Extension of the Deficiency Amortization Period In theory, the purpose of this measure is to increase the solvency deficiency amortization period (consolidated, where applicable) from 5 years to 10 years. However, in practice, it will have a different effect. If the date of the first valuation for which the measures are used is before December 31, 2009, the amortization payments will be determined as if the amortization period were 10 years. However, if the date of the valuation is after December 30, 2009 but before December 31, 2010, the amortization period will be 9 years. Finally, if the valuation date is after December 30, 2010 but before December 31, 2011, the amortization period will be 8 years. Subsequently, inasmuch as the funding relief measures are temporary, the following rules will apply at the end of 2011 for plans whose fiscal year ends on December 31: a valuation of the plan will be required as at December 31, 2011; assets will be valued as at December 31, 2011 at their liquidation value (i.e., with no smoothing); the amortization payments applicable to most of the deficiencies, including the consolidated deficiency, will be eliminated; and the new solvency deficiency will be amortized over a maximum period of 5 years. Although reference is made to amortization over 10 years, any asset shortfall that is established prior to January 1, 2012 will have to be paid no later than December 2016, which is a period of 8 years from the date the Regulation is expected to come into force. Minimum Contributions Usually, as a result of applying the relief measures, an employer will have to contribute the highest of the following three amounts during each fiscal year in the relief period: The amount required in order to liquidate the funding deficiency over a period of 15 years (in general). The amount required in order to liquidate the solvency deficiency (if there has been consolidation) over a period of 8 to 10 years (as outlined above). The minimum contribution as determined pursuant to the draft Regulation. Determination of the minimum contribution is rather complex but, in very general terms, it is the contribution that would have been required had the relief measures not been applied (i.e., with no asset smoothing or consolidation) and if the new solvency deficiency were amortized over 5 years. However, this will all be determined as though the financial losses of 2008 had not been incurred. In other words, the government is prepared to provide relief from the effects of the financial crisis of 2008, but it is not prepared to allow a plan sponsor s required contributions to be less than they would have been if the financial crisis had not occurred. Aon Consulting Ready Special Issue May 12, 2009 page 3

4 As a result, the amount that will be considered to be attributable to the financial crisis will be the difference between: 1. the market value of the assets on December 31, 2007, adjusted for inflows and outflows and using the interest rate that applies to the solvency valuation regarding the benefits of active members; and 2. the market value of the pension fund on December 31, Next Steps The draft Regulation has been issued in order to elicit comments from interested parties by June 19, Based on the feedback received, the Regulation will be amended, if necessary, submitted for government approval, and then published in its final form. We expect very few changes to be made to the Regulation as drafted. Also, it is worth noting that, even if the final version of the Regulation is not published until some time in the summer, it will have a retroactive effective date of December 31, We would like to point out that, in the short term, it will mainly be plan sponsors with plans for which December 31, 2008 actuarial valuation reports must be filed who will be using the funding relief measures. Keep in mind that such actuarial valuation reports must be transmitted to the pension regulatory authorities no later than September 30, The Québec government has not yet made any change in this deadline. Comments The funding relief measures proposed by the Québec government are a follow-up to the recommendations of the working group that was set up by Minister Sam Hamad in the fall of Although many companies will still face high levels of pension contributions beginning in the fall of 2009, the proposed measures will allow the contributions to be considerably lower than they would otherwise have been. Without the funding relief measures, the unprecedented financial crisis that we are experiencing posed an enormous threat to the continued existence of defined benefit plans. The measures are simply a way to buy some time; obviously, they cannot reduce the investment losses incurred in 2007 and 2008, or change the actuarial assumptions established in a context of falling interest rates. Unless high returns are achieved during the 2009 to 2011 period, the increase in contributions at the end of the relief period threatens to be brutal for many plan sponsors. Other measures may be required at that time. For more information, please contact your Aon consultant, or one of the following: Ghislain Nadeau François D Amour ghislain.nadeau@aon.ca francois.d amour@aon.ca Aon Consulting Ready Special Issue May 12, 2009 page 4

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