On Hold

With many Canadians reeling from the blow to their retirement savings and plan sponsors scrambling to shore up their struggling pension plans, 2008 has clearly had a dramatic impact on our retirement system. In fact, it might well have triggered a fundamental shift in the pension landscape.

For plan members, adapting to the new environment requires a clear grasp of the options available to meet changing retirement expectations. For plan sponsors, the ability to adapt requires an understanding of legislative and plan design changes that could help control costs and, ultimately, meet the evolving needs of plan members.

Fallout From 2008
Most of the world’s stock markets fell by 30% or more in 2008. The impact of that decline was felt immediately by defined contribution (DC) plan members, who assume the full burden of investment risk. Although members with less exposure to equities may have fared better than others, virtually all DC plan members took a direct personal hit and saw their pension accounts shrink.

In all likelihood, those planning to retire in the short or medium term will have to revise their retirement expectations. DC members who are unwilling to accept a lower standard of living have only a couple of options.

The first is to delay retirement to recoup some of their losses—assuming that the markets recover in time. This option would also reduce the retirement period, which means their savings wouldn’t have to stretch as far. The second option is to increase contributions (if permitted) or save more money outside of the employer plan.

Even those DC members who plan to retire well into the future are not immune to the current economic conditions. To avoid having to adjust their retirement expectations, these individuals should review the long-term growth expectations of their investments and determine whether higher contributions are needed to keep their retirement forecasts on track. They may also need to consider their job stability and whether they’ll continue to have earnings that permit contributions.

Impact on DB Plan Members
Members of defined benefit (DB) plans are also likely to feel the pinch, despite the fact that DB plan sponsors bear, or at least share, the burden of investment risk. While the pensions provided by DB plans are typically based on a formula and not directly linked to investment returns, plan sponsors must still deal with the fallout of market losses. How they deal with that fallout could have an indirect impact on members and their pensions.

Many, if not all, DB plan sponsors would list 2008 fund returns—and their potential impact on pension costs—as one of their most pressing concerns. Due to historically low interest rates, many DB plans were in an unfunded position even before the market declines of 2008 eroded asset values, which means they are required to file an actuarial valuation on an annual basis. Most of these plan sponsors will start to feel the full impact of their situation in October of this year, since plans that operate on a calendar-year basis must file their valuations by the end of September (except for federally regulated plans, which must file by the end of June).

Sponsors of DB plans are already assessing the damage to ensure that they can manage costs going forward. One option is to adjust future benefits by either reducing benefits for future service or moving to a DC plan for future service. Obviously, both options could affect members’ retirement plans.

Under the circumstances, members planning to retire from a DB plan within the next year or so are the least likely to have to adjust their expectations. However, this assumes that the bulk of their retirement income is coming from DB pension plans. If they plan to supplement it through registered retirement savings plans (RRSPs) and/or other personal savings, they may find themselves in the same boat as most DC plan members.

So, what options exist for members who need and want a more flexible approach to retirement?

Phased Retirement
Some members may consider phased retirement as a way to make the transition. Although the federal government amended the Income Tax Act in early 2007 to permit phased retirement under DB plans, only two provinces—Alberta and Quebec—have enacted legislation. (It’s also an option for federally regulated plans.)

Therefore, phased retirement still isn’t a viable retirement planning tool for many DB plan members. And when legislation allowing phased retirement is implemented, it’s expected to be introduced on a voluntary basis, meaning that DB plan sponsors won’t be required to offer it.

Without phased retirement legislation, DB plan members cannot build benefits in a pension plan while receiving a pension from the same plan. In other words, plan members who are looking for some form of phased retirement must either enter into a new contract with their existing employer (based on reduced hours and no pension benefits) or retire altogether and seek new employment.