The regulatory structure supporting private-sector target benefits plans is evolving. The current status and key themes of legislative initiatives for each Canadian jurisdiction as well as applicable standards are outlined below.
In Canada, there is continued uncertainty with respect to accounting for target benefit plans in the financial statements of plan sponsors.
From Aon Hewitt’s perspective, the target benefit plan should be treated like a defined contribution (DB) pension plan, especially if the commitment from the employer is clearly a fixed contribution, without any possible variation. The impact of such accounting methodology would be as follows:
The position of the audit community is ambiguous while it continues to reflect on its position. One point of contention is the assumption to make concerning the reaction of an employer following poor investment performance in a target benefit plan. Will the employer add more contributions rather than reduce benefits? In other words, some auditors may assume that the "target benefit" is a constructive obligation of the employer and, therefore, it should be considered a defined benefit (DB) plan. Before establishing, or participating in, a target benefit plan that permits a certain level of variation in employer contributions, even with a ceiling on such contributions, the employer should closely analyze the impact of the accounting treatment of such variation.
For example, some New Brunswick plan sponsors that have converted their DB pension plans to the shared-risk model have found some middle-ground in the accounting treatment of their specific arrangements.
Also of note, accounting standard-setting organizations have been attempting for years to clarify the treatment of “hybrid plans”. The International Accounting Standards Board (IASB) had introduced the concept of contribution based plans in the initial version of IAS19-R ED, but this was later shelved as it was seen as too complex. It would not be a surprise to see a similar attempt to address hybrid plans, in the near future, as the target benefit concept continues to increase in popularity around the globe.
Given this uncertainty, auditors must analyze each target benefit plan on a case by case basis. Accordingly, any employer who plans to establish, or participate in, a target benefit plan should discuss the appropriate treatment of the arrangement with its auditor.
Below is Aon Hewitt’s analysis of the treatment of target benefit plans under the various accounting standards used in Canada.
Par. 28
Under defined contribution plans the entity’s legal or constructive obligation is limited to the amount that it agrees to contribute to the fund. Thus, the amount of the post-employment benefits received by the employee is determined by the amount of contributions paid by an entity (and perhaps also the employee) to a post-employment benefit plan or to an insurance company, together with investment returns arising from the contributions. In consequence, actuarial risk (that benefits will be less than expected) and investment risk (that assets invested will be insufficient to meet expected benefits) fall, in substance, on the employee.
Par. 29
Examples of cases where an entity’s obligation is not limited to the amount that it agrees to contribute to the fund are when the entity has a legal or constructive obligation through:
Par. 30
Under defined benefit plans:
For example, a constructive obligation may arise where an entity has a history of increasing benefits for former employees to keep pace with inflation even where there is no legal obligation to do so.
Unless the employer increases its contribution each time a reduction in benefits is deemed necessary, a target benefit plan should be treated like a DC pension plan for accounting purposes and not like a DB pension plan.
It is worth noting that the IASB has, on many occassions, discussed projects related to setting standards for a "contribution-based promise". If such standards are released, this could change the above analysis, and/or could result in more disclosure with respect to target benefit plans than with respect to DC pension plans. So far, no amendments to the standards have been adopted in this regard, however, discussions have started in 2014 that could potentially address these matters.
Section 3462 — Employee Future Benefits
Par .010
When an entity provides benefits under a defined contribution plan, it does not assume the actuarial and investment risks inherent in a defined benefit plan. A defined contribution plan specifies how contributions are determined rather than the amount of benefits an employee is to receive or the method for determining those benefits. The entity contributes a certain amount to the fund in each period in exchange for services rendered by the employee and has no responsibility to make any further contributions. The employees are at risk because the amount of the benefit that will be payable to an individual employee is entirely dependent upon the amount of funds accumulated in the employee's account and the investment earnings on the accumulated funds.
Par .011
A particular benefit plan is classified as either a defined benefit plan or a defined contribution plan depending on the economic substance of the plan established by its terms and conditions. A benefit plan may contain characteristics of both defined benefit and defined contribution plans but is, in substance, one or the other. For example, a benefit plan may stipulate the basis of contributions on which future benefits are determined and, because of this, appear to be a defined contribution plan. However, the plan may make the entity responsible for specific employee future benefits or a specified level of future benefits. In such a case, the plan is, in substance, a defined benefit plan. Another example is a pension plan in which the benefits provided are the greater of the benefits under a defined benefit plan and the benefits under a defined contribution plan. Such a plan is accounted for as a defined benefit plan.
Since the employer does not assume actuarial and investment risk, Aon Hewitt’s analysis of Section 3462 is that a target benefit plan should be treated like a DC pension plan for accounting purposes and not like a DB pension plan.
However, some auditors could interpret that a target benefit plan falls under the example of Par .011, meaning that such a plan is, “in substance” a DB plan.
FASB Accounting Standard Codification (ASC) 715 — Compensation — Retirement Benefits
Definition of a DC Plan in the glossary:
A plan that provides benefits in return for services rendered, provides an individual account for each plan participant, and specifies how contributions …are to be determined rather than specifies the amount of benefits the individual is to receive… the benefits a plan participant will receive depend solely on the amount of contributed to the plan participant's account, the returns earned of those contributions and the forfeitures of other plan participants' benefits that may be allocated to that plan participants' account.
Section 715-70-15-2
A pension plan having characteristics of both a defined benefit plan and a defined contribution plan requires careful analysis. If the substance of the plan is to provide a defined benefit, as may be the case with some target benefit plans, the accounting requirements shall be determined in accordance with the provision of subtopic 715-30 applicable to DB plans and the disclosure requirements…
The language in Section 715-70-15-2 leaves a certain level of uncertainty as to whether a given target benefit plan arrangement should be recognized as a DC pension plan or a DB pension plan. It is important to note that the label "target benefit" in this FASB standard does not have the same meaning as the target benefit design described on this website, but it is instead a DC type of arrangement in the US. Again, discussions with auditors are needed in each specific case and the appropriate treatment will depend on the terms of the employer’s commitment.
Section PS 3250 — Retirement Benefits
Par 012
When a government provides benefits under a defined contribution plan, it does not assume the actuarial and investment risks inherent in a defined benefit plan. A defined contribution plan (or money purchase plan) is one in which a government's contributions in respect of services rendered by employees are specified. The government is required by the plan to make a specific fixed contribution each period. If that contribution is made, no additional government contributions are required now or in the future for the related service. The employees are at risk. This is generally because the amount of the benefit that will be payable to an employee is dependent upon the funds accumulated for each employee's account and the investment earnings on the accumulated funds.
Par 013
Because benefit plans are often complex, careful analysis and professional judgment are needed to determine whether the substance of a particular plan makes it a defined benefit or a defined contribution plan.
Similar to IAS19, unless the employer increases its contribution each time a reduction in benefits is deemed necessary, it is clear that a target benefit plan should be treated like a DC pension plan for accounting purposes and not like a DB pension plan.
Back to TopThere are currently no proposals for amending the Income Tax Act (ITA) to specifically provide for target benefit pension plans. There are target benefit plans operating under the current environment; however, to be most supportive of target benefit pension arrangements, the following questions should be clarified:
We understand that Finance is reviewing several of these questions. We also note that Specified Multi-Employer Pension Plans (SMEPPs) have different treatment which addresses most of the above questions and allows them to operate as true target benefit pension plans.
Back to TopView Aon Hewitt's Response to the consultation paper Issued by the Department of Finance Canada Pension Innovation for Canadians: The Target Benefit Plan - June 23, 2014.
April 24, 2014, the federal Minister of State (Finance) announced the launch of extensive consultations on a potential framework for Target Benefit Plans (TBPs). The Consultation Paper, Pension Innovation for Canadians: The Target Benefit Plan, contains proposals and requests input from industry stakeholders on all aspects of plan design and management: administration, governance, funding policy, contribution and benefit structures, communications, portability, conversion from other plan designs, and plan termination.
Consultation Paper – Pension Innovation for Canadians: The Target Benefit Plan
Prior to this, OSFI had indicated they would allow target benefit pension plans to work within the existing rules for negotiated contribution plans, meaning that, presently, target benefits are possible only for multi-employer plans.
Back to TopThe Employment Pension Plans Act, S.A. 2012, c. E-8.1 (formerly Bill 10), which received royal assent on December 10, 2012, makes provision for target benefit pension plans. Much of the operational detail is in the accompanying Employment Pension Plans Regulation, which was released on July 23, 2014. The effective date of the Act and Regulation is September 1, 2014.
Key changes to the Alberta legislation are summarized in the Aon Hewitt Information Bulletin Alberta Pension Reform is Here, dated July 29, 2014. The information below provides a more detailed analysis of the provisions specific to target benefit pension plans.
The Alberta legislation does not provide for conversion of past service defined benefits to target benefits. While a bill was introduced in April 2014 to permit past service conversions, the Alberta government has indicated that it will not reintroduce the bill when the legislature resumes sitting in November 2014.
The Act allows any plan to have a “target benefit provision”.
A “target benefit provision” means a provision of the plan text document of a pension plan that:
The Act requires every pension plan to have a written governance policy, containing certain minimum required information. The governance policy for a pension plan that contains a target benefit provision is subject to the same requirements.
The Act also requires every pension plan with a defined benefit or target benefit provision to have a written funding policy. In addition to the information required for a defined benefit plan, the funding policy for a plan with a target benefit provision must include information on expectations for benefit reductions.
The Alberta Act and Regulations specify minimum requirements for funding a target benefit provision of a pension plan. The key new requirement is the determination of a provision for adverse deviation, or PfAD. The PfAD is a percentage which is the sum of two components:
The contributions to a target benefit provision must be at least equal to:
An “unfunded liability” is equal to the value of pension assets minus the value of accrued liabilities on a going-concern basis. There is no requirement to apply the PfAD to the valuation of accrued liabilities.
Going-concern actuarial valuations continue to be required triennially. Target benefit provisions are exempt from funding on a solvency basis. However, stress testing is required. The actuary must identify elements that could pose a material risk to the plan’s ability to meet its funding requirements and in the valuation report quantify and explain the potential impact of these risks.
Plans with target benefit provisions cannot withdraw “actuarial excess” funds from the target benefit component of the plan while it is continuing. Nor can “excess” funds be used to offset required contributions.
Under a target benefit provision, commuted values are calculated using the going-concern assumptions from the most recent actuarial valuation report. The 50% rule on employee contributions continues to apply; however, the total amount paid is proportionately reduced if the target benefit funded ratio is less than 100%.
New requirements have been added to existing disclosure statements, and some new statements have been added. The new items specific to target benefit plans are as follows:
British Columbia’s Pension Benefits Standards Act, S.B.C. 2012 c. 30 (formerly Bill 38), which received royal assent on May 31, 2012, makes provision for target benefit pension plans. The Act has not yet been proclaimed in force and much of the operational detail will not be known until accompanying regulations are released. Our most up-to-date sources indicate that regulations are more likely to be released in 2014 (Updated September 23, 2013).
Aon Hewitt’s Information Bulletin: New BC Pension Legislation has its Eye on the Target provides insight on this and other changes made by Bill 38.
The pending Act provides the following definition:
A "target benefit provision" means a provision of the plan text document of a pension plan that
Source: Pension Benefits Standards Act, S.B.C. 2012, c. 30 (formerly Bill 38), s. 1.
Back to TopThere is no current or proposed legislative framework for private-sector target benefit pension plans.
Back to TopThere is no current or proposed legislative framework for private-sector target benefit pension plans.
Back to TopNew Brunswick’s An Act to Amend the Pension Benefits Act, S.N.B. 2012 c. 38 (formerly Bill 63), introduced a new form of pension plan called a Shared Risk Pension Plan (“SRPP”). An SRPP is essentially a target benefit pension plan. A basic benefit is derived, but that benefit may increase or decrease according to the way the plan performs over time. Bill 63 came into effect on July 1, 2012, and the Shared Risk Plans Regulation — Pension Benefits Act, N.B. Reg. 2012/75 was filed August 14, 2012 to provide details on the structure and administration of SRPPs. The Regulation provides considerable detail on affordability testing for such plans.
New Brunswick’s Bill 20, An Act to Amend the Pension Benefits Act, received royal assent in December 2012. This Bill further facilitates the conversion of a pension plan to an SRPP, by clarifying the treatment of past service benefits. Bill 20 has retroactive effect to July 1, 2012.
The Act provides the following definition:
A shared risk plan shall meet the following criteria:
Source: An Act to Amend the Pension Benefits Act, S.N.B. 2012 c. 38 (formerly Bill 63), ss. 100.4(1) – 100.4(2)
Shared risk pension plans (SRPP) in New Brunswick are subject to stringent regulatory oversight. They require the establishment of a funding policy, an investment policy, risk management goals and procedures, including asset/liability modeling and annual actuarial valuations, and a dispute resolution process. The policies must be approved by the Superintendent and the Superintendent may withhold approval of a new SRPP if s/he is not satisfied that the plan’s contributions are sufficient to provide the benefits within the required risk management parameters. Annually, the administrator must review the funding policy and investment policy and ensure that the risk management procedures are applied to the plan; confirmation and updates must be provided to the Superintendent.
The New Brunswick legislation further requires that the plan administrator be a trustee, board of trustees or a non-profit corporation (each director on the board of directors of the non-profit corporation will be a trustee of the plan). An employer or traditional pension committee cannot be the administrator of an SRPP. The sole obligation of the employer and the employees is to make their required contributions. The independent plan administrator is responsible for carrying out the purposes of the plan and for making decisions, in accordance with the plan’s policies, to increase, decrease or suspend both contributions and benefits. The Act does not specify how the administrator is to be appointed or established.
The Superintendent has the power to remove a trustee if he believes the trustee has acted improperly, has acted to the detriment of the purposes of the plan, has not acted in accordance with the applicable legislation, or has failed to act when required by applicable legislation. The Superintendent can also intervene to resolve disputes and deadlocks among trustees.
There are very specific requirements for SRPPs when it comes to affordability testing. First of all, "base benefits" are distinguished from "ancillary benefits". Base benefits include formula benefits at normal retirement, past pension increases, as well as ancillary benefits that have vested. Ancillary benefits may be early and postponed retirement benefits, bridge benefits, escalated adjustments, etc.
Secondly, there are two risk management goals that must be met when the plan is established, converted and whenever an adjustment is made:
In the initial plan design, contributions must cover the funding policy normal cost, administration expenses (including investment expenses exceeding 0.50% of the plan fund), plus any additional amounts required to meet the two risk management goals above.
Stochastic affordability testing must be conducted annually, and must determine the plan’s funded ratio based on an open group projection over a 15-year period. If the open group funded ratio fails to meet minimum requirements (100% in 2 successive years), a funding deficit recovery plan is required. Only when the open group funded ratio is over 105% may benefit improvements be considered under a funding excess utilization plan.
Actuarial valuations are conducted annually and must examine and disclose the results of the affordability testing. There are no requirements for funding on a solvency basis, although the “termination value funded ratio” (essentially the past service funded ratio) must be determined and disclosed.
A member’s termination value under a SRPP is the greater of:
SRPP must disclose to new members and to terminating/retiring members (or the spouse of a deceased member), the nature of the plan and the benefits provided under the plan, including a “clear, plain language statement that the contributions are limited to those allowed under the funding policy” and that base benefits and ancillary benefits may be reduced, both past and future. The plan must also disclose the plan’s funding policy and funded status and must explain how benefits adjustments are determined.
All stakeholders, including members and former members, must be informed annually, within 12 months of the review date, of the key results of the most recent actuarial valuation, with a summary of the plan’s funding policy and a description of how member benefits would be calculated if the plan were terminated.
Additional disclosures are specified upon plan conversion.
Back to TopNova Scotia’s new Pension Benefits Act, S.N.S. 2011, c. 41 (formerly Bill 96), which received Royal Assent on December 15, 2011, includes provisions governing target benefit plans. The Act has not yet been proclaimed in force and much of the operational detail will not be known until accompanying regulations are released.
The pending Act provides the following definition:
The pension benefits provided by a pension plan are target benefits if all of the following criteria are satisfied:
Source: Pension Benefits Act, S.N.S. 2011, c. 41 (formerly Bill 96), s. 57
Back to TopOntario’s Securing Pension Benefits Now and for the Future Act, 2010, S.O. 2010 c. 24 (formerly Bill 120) introduced provisions governing target benefit plans to the Pension Benefits Act, R.S.O. 1990, c. P.8. These provisions have not yet been proclaimed in force and much of the operational detail will not be known until accompanying regulations are released.
The 2013 Ontario Budget indicated that the government will proceed with the necessary regulatory changes with respect to eligible multi-employer target benefit plans. Assuming certain federal tax issues are resolved, the 2013 Ontario Budget also indicated that the government plans to consult with interested parties to establish a framework for single-employer target benefit plans, which would include funding rules, plan governance, the timing of necessary benefit reductions, permitted benefit improvements, and notice to members and retired members.
The 2013 Budget did not indicate whether the Ontario government would reconsider its current position, that target benefit plans should be limited to collective bargaining situations.
Pending provisions of the Act provide the following:
The pension benefits provided by a pension plan are target benefits if all of the following criteria are satisfied:
Source: Securing Pension Benefits Now and for the Future Act, 2010, S.O. 2010 c. 24 (formerly Bill 120), s.39.2.
Back to TopThere is no current or proposed legislative framework for private-sector target benefit plans.
Back to TopThe Act to provide for the establishment of target-benefit pension plans in certain pulp and paper sector enterprises (2012, chapter 32) came into force on December 7, 2012. Although this act applies only to some companies in the pulp and paper sector, it is considered as a first step toward a legal framework that would allow the establishment of target benefit plans (TB) in Quebec.
The Regulation respecting target-benefit pension plans in certain pulp and paper sector enterprises under the Supplemental Pension Plans Act (SPP Act) was published in the Gazette officielle du Québec on November 6, 2013. These provisions are retroactive to December 31, 2010 as some TB plans came into effect on January 1st, 2011. These rules are temporary until permanent legislation is promulgated for all TB plans in Quebec.
A TB plan under this Regulation shall include the following characteristics:
Source: Regulation respecting target-benefit pension plans in certain pulp and paper sector enterprises under the Supplemental Pension Plans Act
TB plans in Quebec are, for now, subject to the same governance rules as the majority of defined benefit (DB) plans. Thus, a Pension Committee should manage TB plans. There are no special rules for TB plans regarding the composition of the Pension Committee (e.g., joint committee or not, greater number of representatives designated by the members).
The Pension Committee must set an investment policy and risk management procedures. Every year, an actuarial valuation report of the plan must be prepared, at the Pension Committee’s request. The Committee should also regularly review the investment policy and ensure that the risk management procedures are applied to the plan.
Just like the majority of the other Quebec pension plans, the Pension Committee is responsible for managing the TB plan text. Corrective measures for making up contribution shortfalls, as well as the priority for each measure, should be expressly stated in this text. Similarly, the terms pertaining to the restoration of any benefits that might have been cut back must be defined.
Under temporary rules applied to TB plans in Quebec, corrective measures should be taken if an actuarial valuation shows the following:
Here are the possible corrective measures:
It should be noted that a reduction of benefits for past service if required to rebalance the plan funding does not constitute a plan amendment according to the Supplemental Pension Plans Act. In such circumstances, the concept of amendment reducing benefits, which would require the approval of all affected members, does not apply to TB plans.
Where an actuarial valuation shows a surplus:
The restoration of benefits that had been reduced is not considered a plan amendment. As such, the principle of equity does not apply to an amendment aiming to increase the benefit target.
Actuarial valuations are carried out annually and must review and communicate the results of the affordability test. The solvency basis will “continue” to be calculated and presented, as it part of the affordability test under the temporary rules. Furthermore, the solvency ratio is used to determine the transfer value for a TB member.
A non-retired member may, at any age, exercise his right to transfer his benefits following the termination of membership in the plan. The value of the member’s entitlements in the TB plan must include any additional benefit related to early retirement under the plan. The methodology and assumptions used are otherwise identical to those required for DB plans. However, TB plans are subject to neither the minimum adjusted benefit provided for in article 60.1 of the SPP Act, nor the rules governing excess employee contributions. Nevertheless, the transfer value must not be less than the sum of the contributions made by the employee, plus interest.
The value of a TB member’s benefits must be paid in proportion to the degree of plan solvency (whether this degree is lesser or greater than 100%). If a payment is made, the benefits covered by the payment constitute a full discharge (i.e. the concept of residual benefits as defined in sections 143 to 146 of the SPP Act does not apply to TB plans).
Finally, the Pension Committee cannot unilaterally purchase annuities for members whose pension is being paid, unless certain conditions are met. A member whose annuity was purchased at his request, if the plan allows it, or as a result of a decision taken by the Pension Committee ceases to be a TB member.
In addition to the information usually shared with DB members, the Pension Committee must communicate additional information to TB members, including:
The Saskatchewan Pension Division of the Financial and Consumer Affairs Authority has confirmed that no amendments are required to the Pension Benefits Act to allow for target benefit plans. Section 40 of the Pension Benefits Act allows a sponsor to limit the contribution levels to the amount negotiated under a collective bargaining agreement. If funds are not sufficient to support benefits, then benefits will be reduced. However, it is not likely that that plans will be permitted to convert defined benefit plans to target benefit plans for past service.
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