With many Canadian defined benefit pension plans in a strong funded position, plan sponsors, particularly those with unionized workforces, are increasingly discussing the use of surplus funds, says Gavin Benjamin, a partner in the retirement and benefits solutions practice at Telus Health.
The funded position of a typical Canadian defined benefit pension plan rose on both a solvency and accounting basis in July, according to Telus Health’s latest pension index. It found the solvency of the average DB plan rose to 107.8 per cent, up from 107.6 per cent in June, while the accounting index increased from 107.1 per cent to 108.4 per cent.
Amid ongoing economic challenges for plan members, many plan sponsors are considering using their surplus to index their plan to inflation, he notes.
Read: Average Canadian DB pension plan returns 3.2% in July: report
“What’s driving that is on the one hand [employers] have a surplus so they’re financially healthy enough to be able to provide the increase. But also, given the inflation we’ve seen over the past couple of years, for a pensioner that’s receiving a fixed pension that isn’t automatically indexed, that pension would have lost purchasing power.”
However, Stephanie Kalinowski, a partner at Torys LLP, says despite strong funded positions, many employers are interested in keeping their pension surplus intact as a safeguard for any future funding risk.
“Just because a lot of plans are fully funded, they’re not necessarily grossly overfunded on a wind-up basis and some plans that have legacy indexation or post-retirement cost-of-living benefits may be fully funded on a solvency basis but could be significantly less than fully funded on a wind-up basis.”
Read: Expert panel: How DB pension plan sponsors can use surplus
Many employers are also looking to end their DB pension liabilities either through full plan wind downs and transitions to a defined contribution model or through de-risking tactics like purchasing a group annuity, she notes. Moving forward, employers could also push for a reduction in contributions for plan members in legacy DB plans, as contribution rates are high for both employers and members. “I think it will take a while for contributions to come down because in most cases, people are going to want to do it gradually.”
Benjamin says about 10 years ago, most pension plans in Canada faced deficits, making DB plans a financial burden for plan sponsors. “From a big-picture perspective, having to decide what to do with the pension plan surplus is a good problem to have.”
Read: Ontario DB pension plans’ average solvency ratio increases to 123% in Q2 2024: FSRA
Historically, a significant surplus that led to a full contribution holiday for both employees and employers would represent a painful transition when the time came to set up those financial contributions again, says Kalinowski. “I think there will be a more cautious approach but there would still be a lot of desire on the side of unions and members to reduce the contributions, if they can.”
Plan sponsors with a unionized workforce that are considering retiring their DB pension plans have to keep in mind the collective agreement when reviewing their surplus, she adds.
“If the pension plan is incorporated by reference into the collective agreement, then it may be that the employer can do nothing without negotiating that with the union. If the collective agreement language is more generous than that, then it may be that the employer has more options that it can take unilaterally, either with some notice to the union or maybe in consultation with the union, but not necessarily with the union’s consent.”
Read: Study finds healthier funding status for DB plans raising interest in LDI strategy reviews