Re: Department of Finance Consultations Ensuring the Ongoing Strength of Canada's Retirement Income System

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2 Joanne De Laurentiis PRESIDENT & CEO Federal-Provincial Relations and Social Policy Branch Department of Finance L'Esplanade Laurier, 15th Floor, East Tower 140 O'Connor Street Ottawa, Canada K1A 0G5 Dear Mr. Forbes: Re: Department of Finance Consultations Ensuring the Ongoing Strength of Canada's Retirement Income System The Investment Funds Institute of Canada (IFIC) 1 welcomes the opportunity to comment on the Department of Finance s consultation paper, Ensuring the Ongoing Strength of Canada's Retirement Income System (the Federal Consultation Paper ). IFIC members provide services to Canadians across the country, and are actively involved in providing Canadians with savings and investment solutions to meet their lifetime goals, including the adequacy of income in retirement. We are pleased to be able to draw upon the considerable expertise of our members and relevant research in this area in commenting on this important public policy issue. IFIC has been an active participant in the national debate concerning Canada s retirement income system. We have provided submissions to the Research Working Group on Retirement Income Adequacy 2, and to the provincial consultations being conducted in British Columbia 3, Alberta 4, Nova Scotia 5 and Manitoba 6. We have considered much of the research available on this topic, and below set out some important observations that we feel should guide public policy regarding the retirement income structure in Canada and we have included our recommendations for ensuring the ongoing strength of the system. 1 IFIC is the national association of the investment funds industry. Its members are mutual fund companies, retail distributors and industry affiliates. Mutual funds enable Canadians to (i) invest in capital markets while diversifying (reducing) risk, (ii) have their savings managed professionally and (iii) obtain expert financial advice to help them plan for and cope with important events in their lives. There are virtually no dollar barriers to starting a mutual fund account. Indeed, some of our members offer savings programs for as little as $25/month. 2 IFIC Letter to The Honourable Jim Flaherty, Improving Retirement Savings in Canada, December 15, 2009; IFIC Letter to DR. Jack Mintz, Summary Report on Retirement Income Adequacy Research, February 12, IFIC Letter to Minister Colin Hansen, Mechanisms for Expanding Pension Coverage and Retirement Income Adequacy in Canada, April 1, IFIC Letter to Minister Ted Morton, Alberta Ministry of Finance and Enterprise Consultations, April 16, IFIC Letter to Minister Marilyn More, Response to Nova Scotia Discussion Paper on Pensions, April 16, IFIC Letter to Minister Rosann Wowchuk, Manitoba Consultation on Canada s Retirement Income System, April 30, 2010

3 2 1. Adequacy of Retirement Savings The Role of Pillar 4 The current debate about the adequacy of retirement income in Canada has been almost entirely confined to a discussion about the three traditional Pillars of our retirement income system: Pillar 1, which includes the Old Age Security (OAS) and Guaranteed Income Supplement (GIS) programs; Pillar 2, which includes the Canada and Quebec Pension Plans (CPP/QPP); and Pillar 3, which includes Registered Pension Plans (RPPs) and Registered Retirement Savings Plans (RRSPs). The Federal Consultation Paper estimates that in 2009, assets in Pillars 2 and 3 amounted to almost $1.9 trillion. Based on CPP/QPP holdings of $153 billion, Pillar 3 represents approximately $1.7 trillion of Canadian registered retirement savings. Missing from much of this discussion to date, however, is any recognition that there exists another very large component of household financial assets set aside by Canadians for a variety of savings purposes, including retirement income. We recommend that federal and provincial governments explore the full picture of retirement assets as they consider the sufficiency of the current retirement income system in Canada. The Federal Consultation Paper publishes (from research prepared for the December 2009 Ministers meeting in Whitehorse) a perspective on the total household balance sheet for Canadians (as set out in Figure 1 below). The first line has been further subdivided in our submission to separate Pillar 2 (CPP/QPP) and Pillar 3 (RRP/RRSP). We also have highlighted an estimate of Other Financial Assets in this table, which we believe should be termed Pillar 4, as many Canadians accumulate and use non-registered financial assets (as distinct from real estate or other household assets) as an important source of retirement income. Pillar 4, which includes the new, rapidly growing Tax-Free Savings Accounts (TFSAs) and other non-registered investment and savings vehicles, is estimated by Investor Economics at approximately $1.7 trillion 7, or roughly the same amount saved in the defined benefit (DB)/defined contribution (DC) plans, and group and individual RRSPs of Pillar 3. 7 Investor Economics, 2009 Household Balance Sheet, preliminary numbers.

4 3 Figure 1: Canadians pension assets are rivaled by their other financial assets 8 Pension assets (individual/group RRSPs 34%, DB/DC/RPP (45% public; 55% private sector 58%, CPP/QPP net assets 8%) Real estate equity (net of mortgages) (residential and other structures, land) Other financial and non-financial assets (other financial and non-financial assets, excluding financial assets held through individual registered retirement saving plans) Consumer debt ($536) Household net worth and CPP/QPP net assets (assets less debts) $5,859 Source: Federal Consultation Paper, Ensuring the Ongoing Strength of Canada's Retirement Income System, March 2010, p Income Replacement in Retirement Needs to include Pillar 4 The Federal Consultation Paper also provides a chart (see Figure 2) of estimated income replacement rates by income level for Pillars 1, 2 and 3 of Canada s retirement income system. These rates range from approximately 85% plus for the lowest income levels to over 50% for the $150,000 income level. Since these numbers take into account only retirement incomes derived Figure 2: Estimated Income Replacement by Income Level. Billions $1,860 $1,917 $2,619 Source: Federal Consultation Paper, Ensuring the Ongoing Strength of Canada's Retirement Income System, March 2010, p.6. 8 Sources: Statistics Canada; Department of Finance Canada calculations, CPP, Caisse Annual Report, Investor Economics; individual registered retirement saving plans and employer-based pension plans are projected from the last published data in 2008Q4 to 2009Q4 based on the financial asset performance of relevant sectors in the quarterly Balance Sheet Accounts; Statistics Canada, Table and Pension Satellite Account, at 2009

5 4 from Pillars 1, 2 and 3, and ignore Pillar 4, they understate by a wide margin the replacement rates actually achieved by Canadians. The additional income streams provided by Pillar 4 assets, if included, would likely raise estimated replacement rates to well above 70% for the middleincome levels, which have been identified by some commentators as the group that is most at risk of not saving enough. As illustrated in Figure 3, data from the Ipsos Canadian Financial Monitor shows that the use of non-registered investments rises with income level 9, likely due to the limiting effect of RPP/RRSP dollar limits. Further research in this area would be warranted to establish the full impact of these non-registered assets on replacement ratios as income levels rise. Figure 3: The Use of Non-Registered Investable Assets by Income Level Source: Ipsos Reid 3. Canadian Income Replacement and Retired Poverty Rates Some of the Best Results in the World 9 Ipsos, A Profile of Households With/Without an Advisor, April 2010.

6 5 The effectiveness of a nation s retirement system can be evaluated by determining the income replacement rates of retirees and the level of poverty among the elderly. The Federal Consultation Paper includes charts showing how the retirement system in Canada compares to other countries (Figures 4 and 5 inserted below). Through both registered and non-registered sources (i.e. Pillar 4), retired Canadians have an average income replacement of over 90% (see Figure 4), which is well above the 70-80% range that many experts have suggested is needed in retirement and among the highest actual replacement ratios of retired income vs. those still employed in the world. Canadian retirees enjoy a significantly higher income replacement than their counterparts in other countries such as the U.K., at only 72.9%, and Australia, at 69.7%. Figure 4: Average Incomes of Seniors as Percentage of Average Incomes of Population In actual fact, with the stability of health care costs in Canada, which can be the source of greatest expense uncertainty for retired people in most countries, the target replacement ratio in Canada could be substantially below the percentage needed in other countries. Yet we actually outpace them significantly.

7 6 The elderly poverty rate in Canada is one of the lowest in the world at 6%, well below OECD average at 13% and substantially below the US rate at 24% and Australia at 27%. Figure 5: Elderly Poverty Rates, OECD Countries, Mid-2000s Canada is one of only two nations that are in the top 5 countries on both measures, reflecting our balanced retirement system that simultaneously elevates its poorest seniors out of poverty while achieving a very comfortable level of income for retirees. We agree with the Federal Consultation Paper s conclusion that the Canadian retirement income system is currently providing seniors with replacement of their pre-retirement incomes at high levels, both in absolute terms and in comparison to other countries around the world. 4. Why has Canada done so well? In addition to a sound public/private balance of support at different income levels and a generally sound tax incentive structure to encourage savings, we believe that a major contributor to these outcomes is the active work and assistance provided by advisors in Canada in the financial services industry. The provision of advice and the desire of clients to use advisors is a distinctive of the Canadian financial environment, supported by very effective regulation around both the sales and manufacture of related products. We see the impact of this each day through our work in the mutual fund industry. The careful assistance provided to clients in a strongly regulated distribution system with responsibility to Know your Client, Know your Product and provide Suitable solutions has aided clients in all income and asset brackets to establish effective investment plans for the future. As Canadians show what is likely the strongest preference in the world for using advisors in their purchase and management of mutual funds, it is no surprise that we see these strong outcomes in the research on retirement adequacy.

8 7 Our cost structure makes advice available to most income and asset levels, and to a much greater degree than in most other countries. Some academics and critics of the mutual industry have simplistically compared the transparent published mutual fund management expense ratio (MER) cost in Canada to costs of products that provide no service or advice at all, or to MERs in other countries that do not measure the cost of these products in as complete a fashion as in Canada. For example, most MERs quoted from the US do not include many of the cost items included by structure and regulation in Canada. We ask that policy makers understand this bias in many of the commentaries submitted on the retirement topic. 5. Continuum of Services and Costs for Retirement Solutions Looking across the range of potential retirement assets available to Canadians from the defined benefit plans offered by some large employers and to the public service, to defined contribution plans, Group RRSPs and individual RRSPs all within Pillar 3, there is a continuum of service levels and costs. Most of Pillar 4 (non-registered financial assets) would be similar to individual RRSPs in terms of the service and cost spectrum in Canada. This is illustrated in Figure 6 below. With DB plans, there is no requirement for personalized service no customized solutions, and no need to tell employees what is in their plans or how well they are performing. Further, there is generally a one size fits all investment strategy, which may work out on average, but may not have optimal levels of equity exposure for younger employees due to the presence of older active lives and/or retired lives in the plan. Once crossing the line between DB pensions and any other form of pension, registered or nonregistered solution, the implications for the plan providers increase significantly as the individual now has an important role to ensure that sufficient assets are in place when they need them, and to manage the portfolio, as adding or extracting funds will make a significant difference to the outcome. The plan provider must provide a high level of reporting to the members as well as investment choices to suit their needs.

9 8 Figure 6: Continuum of Services and Costs Employer Responsibility Individual Responsibilities Defined Benefit DC Employee Plan Individual RRSPs Individual Other Financial Assets No personal service. Only investment management cost recorded DC Pension + Annuities Group RRSP Case varies by size of plan and chosen services Primarily supported by personal advisors Pillar 3: $1.7 trillion Pillar 4: $1.7 trillion With DC pensions and Group RRSPs, some personalized service may exist, depending on the size of the plan and the options provided, but these services may be limited. Individual RRSPs and Other Financial Assets are usually supported by personal advisors, with a high degree of regulated information and fund management process in the case of mutual funds. This entails significant additional costs due to regulated requirements for Know Your Client, suitability, account statements, and daily valuations, etc. Pension plans are not subject to these requirements. Papers released in the current provincial and federal round of discussions have often referred only to the relative costs of defined benefit pension plan investment management costs of a single one size fits all fund compared to the costs of individual savings options without recognizing the benefits of customization and personalized service that these costs pay for. These personalized services have proven to be of significant value to Canadians and have helped to propel Canada into one of the strongest countries in the OECD on measured retirement income outcomes (Figures 4 and 5 above). 6. The Value of Advice The Federal Consultation Paper refers to and appears to endorse a comment from Professor Jog that Canadians often appear to pay for asset management and advice that are accompanied by

10 9 costs without commensurate returns. 10 Other commentators in the debate have taken the extreme view that that pension plan holders would save the costs of advice that come with the higher service levels of individual RRSPs and Other Financial Assets. The reasoning is faulty because it ignores the fact that the vast majority of people, including those with DB plans, will need financial or investment advice at some time during their preretirement years and in their retirement. This view assigns a zero value to the role that advice plays in helping Canadians make the choices that are right for them, encouraging good savings behaviours early in life, and adopting and following through on their financial plans. Advice is sought out by investors because of the benefits it provides. Advisors might be seen, at a high level, as providing three basic types of service: (1) Setting planning targets, which is the process of building with the client financial and investment plans to meet life s goals, and enabling them to stick to those plans; (2) Choosing the right products and vehicles to implement those plans such as RRSPs, RESPs, TFSAs, insurance, and segregated funds; and (3) Setting a strategy for investing, which includes advice on the asset allocations necessary to achieve a person s investment objectives. The value of personalized investment advice has been well documented by independent professional research. A study by Ipsos of Canadian Financial Monitor (CFM) data, A Profile of Households With/Without an Advisor in April , for example, provides powerful quantitative evidence of values received from these services by Canadian investors. For the April 2010 study, Ipsos was asked to identify respondents who completed the report in 2005 and The study is based on the static sample of 3,217 households completing the survey in both years. From this sample, Ipsos was able to identify two groups of households those with an advisor in both 2005 and 2009 (the advice group, consisting of 1,030 households), and those without an advisor in both years (the non-advice group, consisting of 1,371 households). Summary conclusions of the Ipsos study are illustrated in Figures 7, 8 and 9 below. Attitudinal responses shown in Figure confirm that households with an advisor are more confident with their current and future financial situations than households without an advisor. 10 Jog, Vijay 2009, Investment Performance and Costs of Pension and other Retirement Savings Funds in Canada: Implications for Wealth Accumulation and Retirement. 11 The Canadian Financial Monitor is a continuous syndicated research service that provides detailed information across a wide range of issues related to Canadian household finances. 11 The service was launched by Ipsos Reid in 1999 to address a market need for an all-encompassing study to track the ongoing financial health, product holdings, banking habits, household expenditures and attitudes of Canadians. Results for CFM are collected monthly to yield an annual sample of 12,000 households. Since it is a panel survey, it affords researchers the ability to track the responses of the same Canadian households through time. Further information about the Canadian Financial Monitor can be found at

11 10 Figure 7: More Comfortable, More Confident, Better Outlook with Advice Source: Ipsos Reid The Ipsos study also shows that advised households have approximately double the participation in tax-advantaged solutions such as RRSPs, RRIFs, RESPs and TFSAs, than households without an advisor (Figure 8) which will cause a wide variation in future retirement income potential. Figure 8: Household Penetration of Registered Savings Plan Type (2009) Source: Ipsos Reid

12 11 The Ipsos study also finds lower proportions of conservative investments in the portfolios of advised households relative to non-advised households (Figure 9). With interest rates currently at multi-decade low levels, the higher the allocation of fixed income assets in these non-advised portfolios will present their owners with a greater challenge to produce after-inflation returns sufficient to meet their retirement needs in the future. Figure 9: Allocation of Investable Assets (2009) rce: Ipsos Reid Sou 7. The Value of Active Management Some of the commentary supporting enhanced DB or DC pension plan solutions has been based on a view that the active management component of a mutual fund does not add value to individual retail portfolios. This view appears to have some support in the Federal Consultation Paper as noted in the following reference: A paper by Vijay Jog, which was also commissioned under the research directed by Professor Mintz, reviewed studies that have been carried out on the value of active management of invested assets and concludes that there is no clear evidence that actively managed funds perform better than passive investment in indexed funds over time. Professor Mintz noted that, according to Vijay Jog, investors generally receive a lower return on their actively managed investments compared to passive strategy investments due to the management fees incurred. We do not believe that the research cited supports these conclusions for the following reasons: (1) Actual mutual fund returns not used: The research paper used returns constructed by subtracting active management costs from the index rather than by using actual available

13 12 Canadian mutual fund performance data as the basis for its conclusions. No conclusions regarding active versus passive management, return persistence or investment costs can be drawn from this analysis. (2) Cost comparisons not completed on an equivalent bundle of services: The research paper compares the cost of various approaches towards saving for retirement but does not control for the variation in the benefits provided through each savings arrangement - such as the benefits of flexibility, choice, liquidity, service, transparency and accountability. In making the cost comparisons, the paper assumes that all else is equal. All else is not equal across the various saving arrangements under review, and the conclusion that lower costs necessarily translate into higher rates of wealth accumulation is invalid. (3) Volatility of returns was not considered: Return maximization is not the only goal of active managers. Risk minimization is an equally important objective as each individual investor has very specific risk tolerances. These individual tolerances must be incorporated for a given investment strategy to be successful. Information on volatility of returns was not considered in the above-mentioned analysis. (4) U.S. studies not widely representative of Canadian profile: Many of the conclusions drawn in the paper are based on U.S. or international studies. Our experience has been that results from such studies have limited relevance in the Canadian situation. As policy makers consider the arguments made in the active vs. passive debate as it touches on the retirement savings reform discussions, we ask that they keep the following seven common analytical weaknesses in the academic literature in mind: (1) Benchmark Misuse studies apply the wrong benchmarks to funds due to a lack of knowledge of the manager s investment objectives. In some cases, the index vendor may author a study and assume that all active managers only use their proprietary indices. (2) Treatment of Fees studies do not properly adjust returns for the basket of services provided. For example, where the cost of advice is embedded in the fee it must be removed to measure the fund manager s skill. (3) Confusion of the index with an investment that tracks the index studies inappropriately compare manager returns to the index rather than "an investment that attempts to track the index". Investors cannot purchase an index without incurring transaction costs including commissions (on both sides of the trade for some products), bid/ask spread distortions or return deviation due to tracking error. (4) Narrow Universe studies which (despite the methodology issues) conclude passive management outperformed active management in a certain asset class tend to extrapolate the results for all asset classes. (5) End Date Bias studies focus on limited time periods and conclude that the results would be the same for all time periods. In practice, the relative success of both active and passive strategies fluctuates through time.

14 13 (6) No recognition for risk and tax consequences Studies do not adjust returns for risk and/or tax considerations both of which can considerably alter savings outcomes. (7) Ex- Post analysis Almost without exception, studies are data mining exercises. Studies apply benchmarks after the fact when the correct approach would be to agree on the benchmark first then test the manager s skill. The result is that while the sources of fund manager outperformance can be explained (albeit with potentially the wrong benchmark) the conclusions drawn cannot improve future decision-making for the investor. In short, we believe that after a thorough analysis of various existing literature on the active vs. passive debate that the results are inconclusive at best. For individual investors, the relevant question is not whether to choose an active or passive fund but rather how to choose the investment that will maximize the risk adjusted returns of their portfolio subject to the investor s other unique income distribution and tax-efficiency needs. Both passive and active funds will be utilized to answer this question in many cases as they are by large institutional investors such as the Canada Pension Plan Investment Board. 8. Misplaced Focus on Costs Rather than Outcomes As noted, commentary in this debate has often focused on the costs rather than on the outcomes for investors of the various pension and individual product options. The mutual fund industry in Canada has been consistently providing Canadians, primarily through advisors, the opportunity to build and maintain effective and suitable portfolios of funds based on a customized assessment of each client s circumstances. To get a measure of outcomes, we looked at the experience of mutual fund holders during the two very extreme years of 2008 and 2009, when interest rates reached multi-decade lows, and equity markets fell precipitously in 2008 and rebounded just as dramatically in We calculated the average change in total asset value of Canadian mutual funds 12 (approximately $600 billion) exclusive of any change in assets due to cash flow to get a view of the average experience of the average mutual fund holder over this period. We found, on this basis, that in 2008 there was an overall drop in value of all funds excluding money market funds of 23.3%, followed in 2009 by an overall increase in value of 19.8%. On a combined two-year basis, the compound annual growth rate was -4.1%. If money market returns are included, the respective returns are -21.1% in 2008, 17.1% in 2009, and -3.9% as a compound rate over the two years. We then compared these results with those of all large public defined benefit pension plans, whose 2009 returns were published prior to the preparation of this letter. These plans had assets in aggregate of approximately $400 billion. Since the above-noted mutual fund results are net of all MER components, including virtually all forms of advisor compensation costs providing many financial planning support and other services that go well beyond those available in a defined benefit pension plan, it is very revealing to compare the mutual fund results to those of the major public pension funds for 2008 and Returns computed using monthly IFIC data adjusted for sales and transfers.

15 14 As shown in Figure 10, DB funds outperformed mutual funds (-18.0% DB vs % MF) in However, in 2009, these DB funds significantly underperformed mutual funds (10.6% DB vs. 19.8% MF). On a two-year basis, the mutual funds returns net of virtually all fees outperformed the largest most economical defined benefit pension funds in Canada (-4.8% DB vs. -4.1% MF). In fact, this level of outperformance by mutual funds is understated given that many pension plans do not include all costs in their reported returns. For example, it appears the CPP excluded Operating Costs of $189 million in its Fiscal 2009 reported rate of return 13 (or 16bps as depicted on page 61 of the 2009 CPP Investment Board's annual report). Figure 10: Comparing Public Pension and Mutual Fund Returns for 2008 and 2009 Public Pension Funds vs. Mutual Funds 2009 Assets 2009 Returns 2008 Returns Two-year CAGR Public pension funds CPP $124 B 7.5% -14.4% -4.1% Ontario Teachers $96 B 13.0% -18.0% -3.7% OMERS $48 B 10.6% -15.3% -3.2% Caisse Depositors (QPP/PQ Gov t/farr) $95 B 10.0% -25.0% -9.2% Ontario Hospital $31 B 15.2% -12.0% 0.7% Local Authorities (Alberta) $15 B 9.4% -15.1% -3.6% Canada Post $14 B 16.2% -19.3% -3.1% Asset-weighted large public pension funds $423 B 10.6% -18.0% -4.8% Asset-weighted mutual funds (net of fees) excluding money market funds $595 B 19.8% -23.3% -4.1% Asset-weighted mutual funds (net of fees) including money market funds $653 B 17.1% -21.1% -3.9% Source: IFIC; public pension websites; public pension funds are those that have reported 2009 results and may exclude certain fees; CPP calendar returns computed using data from the fund s Quarterly Reports; Caisse returns are weighted average returns of all Caisse Depositors; mutual funds use monthly IFIC data adjusted for sales/transfers, and exclude money market funds. With interest rates now at multi-decade low levels, the ability to achieve good returns on fixed income assets will be challenged in the future. Simply put, it is hard to imagine interest rates going down on any consistent basis in the future, which makes capital gains on fixed income unlikely. If interest rates stay at current levels, then the yield on fixed income products will contribute very little to overall returns; and if interest rates rise, these assets will produce capital losses. Going forward, as DB plans need to hold a more conservative profile of assets with higher fixed income exposure because of their one-size fits all single fund approach, they will likely be constrained in their ability to match the returns of individually styled portfolios for meeting the retirement goals of Canadians. 13 CPP's Fiscal 2009 rate of return was reported as -18.6% (ending March 31, 2009).

16 15 Comparing pension funds and mutual funds on a cost basis alone, as many have done in the current retirement savings policy debate, undervalues the benefits of advice and personalized service and ignores the impact of properly constructed suitable portfolios modified through time for each client as their age and circumstances change. 9. CPP enhancements Some groups commenting on the retirement issues have suggested a significant increase in the CPP. We suggest that there be no further changes to the CPP for the following reasons: (1) The overall retirement system is already working well as exemplified in Figures 2, 4 and 5 above, with very high replacement ratios already in place before adding in Tax-Free Savings Accounts (TFSAs) and other forms of Pillar 4 (other financial assets) held by Canadians. (2) The RRSP/RRP limit system was last established after a full review of the retirement system in Since then, limits have been maintained at 18% of self-employed earnings with some relaxations in carry forward provisions and incremental changes to upper dollar limits. Over this period, the CPP has been significantly increased as measured by the % of employee and employer contributions mandated by the plan. Current contributions represent 9.9% of salary above $3,500, more than double 1991 levels. (3) Funding for further enhancements of the CPP will require increased payroll taxes. Significant increases above the current contribution rates will erode Canadian competitiveness and reduce employment which will work at cross purposes with improving Canada s retirement system. (4) Fully funded improvements to CPP will take up to 40 years for the matured benefit to be realized by retiring workers, which may be an unacceptably long period for governments to deliver a solution. Any acceleration of benefits would result in intergenerational transfers from those farther away from retirement to those retiring early. 10. Conclusions and Recommendations The 4 Pillars of our retirement income system provide Canadians with one of the most effective retirement income systems in the world while maintaining a rich variety of solutions based on individual needs. We provide answers to the specific questions contained in the Federal Consultation Paper in Appendix 1 of this letter. Our specific recommendations for ensuring the ongoing strength of Canada's retirement income system, which we also have made to your provincial counterparts, are as follows:

17 16 (1) Make it easier and more appealing for employers (particularly small- and medium-sized businesses) to establish retirement plans affordably, including by providing appropriate protection from liability to employer plan sponsors acting in good faith. (2) Increase the number of Canadians who participate and save enough in employer or individual retirement savings plans through the introduction of automatic enrollment and contribution escalation features, and better financial education. (3) Ensure tax-benefit parity between all Canadians, whether they are in the private or public sector or in DB, DC, group RRSP, RRSP or other tax-advantaged plans, both before and in retirement (for example, by increasing deductible contribution limits to meet the federal public service plan benchmark of 34% of earned income). (4) Understand and support the value and significant advantages of Canadians access to financial advice when comparing all-in costs and benefits of features available within government-provided, employer-sponsored and individual retirement plans and other savings vehicles. We would be pleased to provide further information or answer any questions you may have please contact me directly or Jon Cockerline, Director, Policy - Dealer Issues at jcockerline@ific.ca or (416) Yours sincerely, THE INVESTMENT FUNDS INSTITUTE OF CANADA By: Joanne De Laurentiis President & Chief Executive Officer

18 APPENDIX 1 Responses to Federal Consultation Paper Questions 1. What are the main issues/challenges that Canadians face in saving for retirement? Financial illiteracy: The lack of financial literacy of Canadians also presents a significant challenge for many Canadians in reaching their retirement goals. The Task Force on Financial Literacy identifies the following issues: Canadians lack of awareness about the importance of saving for the future; their lack of understanding of the public and private pension systems; the multitude and complexity of retirement savings vehicles, and of pension plan features and products; the challenges of accurately estimating life expectancy and, therefore, retirement income needs; and behavioural factors such as procrastination, which may prevent them from taking appropriate action sooner. The challenge for governments will be to respond to these changes by making it easier and more appealing for employers to establish retirement plans affordably for their employees, and by ensuring that, whatever reforms are taken, Canadians will continue to enjoy undiminished access to and availability of financial advice. Tax system bias: The Canadian retirement income system treats those saving for retirement in RRSPs and GRRSPs less favourably than those in DB and DC plans. Similarly, the GST and HST apply at four to five times the rate on funds possibly the most affordable way for Canadians to participate in the higher yields of the capital markets at manageable cost and diversified risk as on non-fund products. The tax disadvantages compound in financial effect over the life of Canadians invested in RRSPs and Group RRSPs. 2. What is the appropriate role of governments in supporting Canadians to achieve adequate retirement income? Framework: An important role of governments is to review the retirement income system periodically: o Providing a basic safety net OAS and GIS, with provincial income supports is a first Pillar goal that Canadians support and there are provisions for regular increases. o A shared and sustainable employer-/employee-funded second Pillar is equally important Canada s CPP has been restored to financial stability and is estimated to be sustainable for many decades to come. o As the first and second Pillars and pension plan aspects of the third Pillar have been extensively reviewed, now is the time to devote similar attention to improving the group RRSP, RRSP and other voluntary savings parts of the third and fourth Pillars. Research: To support the retirement income system review function, governments also have a key role in collecting, assessing and publishing data to identify where problems may lie and what solutions may be recommended. Particular areas of interest may be elderly single women and immigrants, as well as possible other subsets of the Canadian population. Special modules could be designed for certain socio-economic groups who may have less knowledge of the Canadian financial system, such as new Canadians. This is particularly important as the ability to save more is contingent on being aware of

19 18 various tax-advantaged programs such as TFSAs, RRSPs, registered education savings plans (RESPs). Fair taxation: A key principle of tax policy is neutrality, which implies the need for there to be equitable tax treatment of all investors, plans/products and suppliers. Our response in 4.III below addresses this issue in detail. Financial literacy: Governments also have a role in championing and facilitating financial literacy education in school curricula for children and youth. We believe that the Task Force on Financial Literacy report, expected at the end of this year, will include additional proposals to consider. Governments also could consider steps to encourage employers to allow financial advisors to provide education. Research shows that financial training at the time of employment/in the workplace significantly boosts financial literacy and may positively affect the number of employees who participate in plans and the amounts saved Does the retirement income system currently have the appropriate mix of public and private support? Based on a number of international comparisons ( Canada's retirement-income provision: An international perspective, Edward Whitehouse 2009, 2009 Mercer Melbourne Pension Index ), Canada s retirement income system reflects a good balance between its three Pillars. The Whitehouse report states that: The best approach for an individual faced with such uncertainty and, by extension, for a government seeking to do the best thing for its citizens is to use a mixture of ways of providing retirement incomes. The OECD has long advocated diversified retirement-income provision, arguing that "diversity has many virtues" (OECD, 1998). The report on Maintaining Prosperity in an Ageing Society went on to say that "each of the elements of the system has its own strengthens and weaknesses and a flexible balance among them not only diversifies risk but also offers a better balance of burden-sharing between generations". 14 Social and Enterprise Development Innovations (SEDI), Financial Literacy: Strategies to meet the needs of low income Albertans, June Those who work for companies that provide financial education are more likely to display higher levels of financial literacy Employer financial education programs lead workers to plan more for retirement. There is a strong correlation between financial literacy and financial planning and retirement planning is a powerful predictor of wealth accumulation Knowledge about how and where to access financial information is not the end of the story. Applying that information in making the right financial decisions is a key part of financial literacy. Annamaria Lusardi and Olivia Mitchell, Financial Literacy and Retirement Planning: New Evidence from the Rand American Life Panel, Michigan Retirement Research Centre Working Paper 2007.

20 19 While there has been support from a number of groups for an expansion in public sector involvement in the retirement income system, three pivotal questions must first be answered: First, does the evidence suggest that a new or incremental government-sponsored pension plan is warranted? The research that made up the Mintz and Baldwin reports did not come to this conclusion, although the Baldwin report raised the appropriate level of government involvement. The Whitehouse OECD-based analysis suggests that the current balance has led to a very low level of senior poverty in Canada. Rather than changing a diversified system that has proven to have worked well without evidence of an immediate need for major changes, we believe that it makes sense to take the time to identify ways to improve on the system without a significant change with as-yetunquantified costs and risks. Second, if a change from private to government-sponsored or -managed plans is being contemplated, has transparent analysis and discussion of the estimated costs, risks and other impacts of the government-based alternatives taken place and been compared to other alternatives? The answer is not to our knowledge. If serious consideration is to be given to options that would fundamentally change the balance between the three Pillars, it must be supported by fulsome analysis of the implications for business, the selfemployed, capital markets, current consumption, individual saving, government spending and fiscal impact. Third, what are the potential implementation, transition and ongoing costs of such a shift and are they outweighed by the benefits? As of yet, we have not seen an estimate of the projected costs of implementation, transition and ongoing administration of such a system. One major cost to consider is the implicit government liability that would arise if a DC-based government-sponsored system did not deliver the retirement expected, for example, due to the downturn recently experienced. Even if a government takes every step possible to limit its legal liability, a number of experts question whether it is possible to avoid political accountability. There is wide recognition of the costs of setting up provincial plans (particularly on a voluntary basis in a country with as relatively small a population as Canada). Reliance on the CPP would shift but not eliminate political liability. 4. Are changes needed to further strengthen Canada's retirement income system? We recommend a four-prong approach: (1) Make it easier and more appealing for employers (particularly small- and mediumsized businesses) to establish retirement plans affordably Efforts have been made at the federal and provincial level to address the drawbacks to DB plans. So too should efforts be made to make those aspects of registered retirement savings plans variable investor returns, ability to withdraw more pension like in the eyes of policymakers.

21 20 a. Expand the Income Tax Act (ITA) locking-in rules to limit the ability to withdraw employer contributions from RRSPs and TFSAs to reduce the undesirable depletion of savings, with certain permitted withdrawals and re-contributions (e.g., home buyers plan, lifelong learning plan, RESP, etc.). b. Reduce unnecessary business costs of offering plans by: i. Allowing employers to contribute directly to group RRSPs for their employees so that as for DB and DC pension contributions CPP, employment insurance and other payroll taxes will not apply, thereby incenting employers to offer these plans. ii. Broadening access to multi-employer plans by allowing regulated financial institutions to offer such plans by eliminating current requirements for an employment relationship between the sponsoring institution and plan members, and allowing any employer (and the self-employed) to participate in professionally managed plans, and publicizing these plans existence iii. Simplify and harmonize regulatory and administrative requirements governing retirement savings plans and investments across Canada, and provide appropriate protections (safe harbours) for firms sponsoring plans in good faith from undue liability (for example, with respect to options made available to employees and the performance of employee-selected investments), provided these firms comply with certain minimum due diligence guidelines. c. Encourage employers to offer retirement savings plans by providing a small tax incentive to employers offering a retirement savings plan with auto-enrollment of employees and auto-escalation of contribution features. (2) Increase the number of Canadians that participate and save enough in employer or individual retirement savings plans through the introduction of automatic enrollment, and other contribution escalation features, and better financial education Based on research, certain techniques that preserve choice, but make it easier for the saver/investor to avoid missing out on retirement savings opportunities due to the lack of time, expertise or interest, can substantially increase savings with little impact on government expenditures. a. Facilitate auto-enrollment and auto-escalation by making the legislative changes necessary to allow for automatic enrollment of employees and automatic escalation of contributions into employer-offered plans or a multi-plan of the individual s choice, with the right to opt out. Auto-escalation could be based, for example, on salary level or length of service to enhance both participation and savings rates. How autoenrollment and opt-out is to work should be studied to ensure the minimum of administration for employers and employees.

22 21 b. Encourage the implementation of legislative changes to provide creditor protection to non-insurance RRSPs in Nova Scotia and Ontario. (3) Ensure tax-benefit parity between all Canadians, whether they are in the private or public sector or in DB, DC, group RRSP, RRSP or other tax-advantaged plans, both before and in retirement, for example, by increasing deductible contribution limits to meet the federal public service plan benchmark of 34% of earned income Specific recommendations with respect to changes to the Income Tax Act to extend pension-related tax benefits to RRSP-holders include: a. Raise the RRSP contribution limit from 18% to 34% of earned income and equivalent maximum dollar amount to meet the federal public service plan benchmark 15 or provide greater flexibility through a lifetime RRSP contribution limit or allow those who leave the workforce for specified reasons (e.g., childcare, job loss) to accumulate RRSP room; permit those who are self-employed and may have widely varying incomes from year to year to base RRSP contributions on average income allowing the carry-forward or back of earned income above the annual limit to maximize RRSP deductions; and consider relief for those who may have faced or face substantial market losses, from which most members of DB plans were shielded, to be able to deduct some losses from ordinary income. b. Amend the ITA to extend the minimum income-splitting age with a spouse or partner from 65 to 55 for RRSPs, consistent with rules governing pension plans. c. Reduce registered retirement income fund minimum withdrawal factors and increase eligible DB-to-RRSP transfer limits in Income Tax Regulation 7308 to reflect an older population, longer life spans and today s lower interest rate environment. d. Make the pension credit available to people receiving income from a registered retirement income fund (RRIF) or life income fund (LIF) regardless of age, as it is to recipients of annuities from pension plans. c. Correct the unfair application of the Goods and Services Tax (GST) and harmonized sales tax (HST), which apply more heavily to mutual and other funds than non-fund investment products, by applying a single lower federal-provincial rate of sales tax to management, advisory and administrative services provided to funds and by treating contributions to government and private sector pension plans, group RRSPs and RRSPs equivalently. e. Eliminate the double taxation of dividends in registered plans Bill Robson, C.D. Howe Institute, February 2010, Cutting Through Pension Complexity: Easy Steps Forward for the 2010 Federal Budget 16 The dividend gross-up in the means-tested net income calculation for Old Age Security (OAS) and Guaranteed Income Supplement (GIS) benefits should be eliminated. Seniors with the same income but differing amounts of dividend and interest income will have different incomes for purposes of social benefits calculations and hence receive substantially and unfairly varying net benefits. The dividend gross-up from the net income calculation

23 22 (4) Understand and support the value and significant advantages of Canadians access to financial advice when comparing all-in costs and benefits of features available within government-provided, employer-sponsored and individual retirement and other savings vehicles Advisors provide advice to Canadians with respect to assets from which the advisors derive no financial benefit, the most frequent types being payments from the CPP and employer DB and DC plans. Additionally, as Don Stewart, Chair of the Task Force on Financial Literacy, noted: The growth of information, regulation, technology and products will outpace our ability to remain current. Advice makes information understandable and usable; advisors ensure follow-through, bridging the disconnect between knowledge and action. (November 26, 2009). Our recommendations include: a. Build in age-appropriate financial literacy principles to school curricula to develop and reinforce the importance of saving and investing over a lifetime. b. Promote the hosting by employers of financial education sessions by pension or GRRSP plan sponsors to provide employees with basic planning tools research suggests that offering education at the time of employment significantly boosts financial literacy and may positively affect the number of employees who participate in plans and the amounts saved. 5. Should there be more mandatory retirement savings? We believe that Canada s retirement income system should provide access, choice and flexibility. In this context, universal mandatory measures, or one size fits all approaches, do not correspond to the interests of a most individual Canadians. 6. Should individuals be auto-enrolled in any new voluntary savings program? We recommend that mandatory auto-enrollment, with an opportunity to opt out, apply to pension and other retirement savings plans equally, consistent with research that shows this considerably builds savings (although the auto-enrollment approaches should be discussed to ensure this can be done in the most efficient way for employers and employees). should be eliminated for purposes of computing OAS and GIS income-tested benefits so the claw-back includes actual dividends received, not the grossed-up amount of 125% for ineligible dividends or 145% for eligible dividends.