The answers lie in the development of a framework for pension governance for the plan sponsor and clarity on the assignment of responsibilities and accountability. Accountability is usually assigned at three levels: executive, managerial and operational, and entails oversight of responsibilities.
Many of these responsibilities include governance structure and processes, defined benefit(DB)funding, DB investing, defined contribution(DC)investing, legal compliance, plan audit, communications and education, custody and record keeping, and plan expenses.
TAKE TWO
There are two criteria that have a significant impact on the allocation of responsibility for pension governance: one is materiality and the other is due diligence.
An issue is material if it can significantly impair a plan’s capacity to pay promised benefits: an example of a material issue is a DB plan’s asset allocation. The class action suit concerning the Participating Co-Operative of Ontario Trusteed Plan(certified Feb. 10, 2005)provides an example of how asset allocation can materially affect a plan. The plaintiffs alleged that the defendants, negligently and in breach of their fiduciary duties, improperly invested in derivatives. The Financial Services Commission of Ontario investigated and found unacceptable investment and governance practices. The case has not yet been decided or settled; however, the investment approach, whether negligent or not, resulted in the permanent reduction in promised pensions and the termination of the plan.
In general, decisions that materially impact a plan, its members and the plan sponsor, such as funding policies and investment policies for DB plans, fall into this category. These are almost always executive-level decisions. Based on Enron and other U.S. DC cases, the establishment of a policy that requires compliance of a DC plan with the diversification and education requirements outlined in the Capital Accumulation Plans Guidelines could also fall into the category of decisions that materially impact a plan.
An issue may be important, but not material. An example of a non-material issue is a systemic error in pension calculations. Unlike the asset allocation problem described above, this kind of problem can be fixed.
Similarly, the sub-processes that constitute the implementation of a material decision may not themselves be material. For example, the selection of particular investment managers is usually made by officers or managers, as opposed to directors.
With respect to due diligence, a plan sponsor has a fiduciary duty to exercise the care, diligence and skill in the administration and investment of the plan that a person of ordinary prudence would exercise in dealing with the property of another person.
A fiduciary decision maker should be able to demonstrate that each fiduciary decision is made with the appropriate care, diligence and skill. The decision should not be a mere formality based on the actual decision of someone who reports to the decision maker because the decision maker’s due diligence cannot be demonstrated in such a circumstance.
To the extent they have the time and knowledge, a corporation’s directors could be involved in the ongoing management of a plan. However, most directors only have time to deal with pension governance matters that materially impact their plan, its members and the companies they represent. As a result, the supervision of pension plan management and operations is usually delegated to a management pension committee.
APPROPRIATE GOVERNANCE
The key to ensuring the corporation and its directors and officers are not exposed to legal liability arising from the management and administration of a pension plan is to ensure that the appropriate governance structure and processes are in place to enable the directors and officers to: exercise due diligence in the management and administration of a pension plan, and demonstrate that due diligence was exercised in the past, particularly if decisions or actions have led to adverse results.
Every DB pension plan will eventually experience adverse investment results, no matter how well invested. In the absence of due diligence, the plan sponsor could be held liable for adverse investment results.
With due diligence, the plan sponsor would be considered to have exercised a reasonable standard of care in the management of the plan investments and would not be held liable for adverse results.
Due diligence in the management and administration of a pension plan is best supported by(1)an effective pension committee(either a board committee, a management committee, or a combination); (2)written plan policies;(3) appropriate accountability;(4)rigorous oversight and monitoring; and(5)effective information flow.
As a practical matter, particular governance responsibilities should be allocated to the individual or committee of individuals in the governance structure with the time and knowledge needed to fulfill the responsibility with the appropriate level of due diligence.
The due diligence requirement typically limits the role of a board of directors to approval of critical matters such as investment and funding policies.
Plan sponsors should review their governance structure and processes in order to confirm that plan governance responsibilities are appropriately allocated, based on their materiality to the plan and to the sponsor, and based on the need to fulfill their due diligence obligations. Of course, the critical matter, regardless of who is responsible, is to ensure that promised benefits are paid.
Director Differences Before understanding what the responsibilities of the board are it is best to understand the differences and nuances between executive, managerial and operational levels. Corporate directors and, sometimes, senior officers are at the executive level. The directors and officers are ultimately responsible for the governance of the corporation’s pension plan. At this level, the governance structure is established, policies are adopted, high-level oversight is provided and results are periodically reviewed. The directors and officers are expected to oversee and assume responsibility for the plan but are not expected to manage the plan on a day-today basis. They should ensure that the pension governance structure, roles and responsibilities, accountability and reporting relationships are clearly documented and communicated to all participants in the pension plan governance process. They may delegate operational management tasks but are ultimately responsible and accountable for managing the plan and for selecting and monitoring the actions of delegates and committees. Management employees and, sometimes, officers are at the managerial level. Management is responsible for supervising the ongoing operations of the plan. At this level, policies are applied, operations are staffed and directed, the plan operations are monitored and, where appropriate, recommendations are developed for executive consideration. The operations level is responsible for the day-to-day operation of the plan within pre-set policies and parameters. Staff and external providers and, sometimes, middle management are at this level. At this level, day-to-day decisions are made and operations are carried out. The executive, managerial and operational levels of accountability are not always distinct as one level blends into the next. Even where they are similar, the allocation of responsibility for pension governance may differ. |
Kevin Moriarty is principal, retirement governance consultant, with Mercer Human Resource Consulting in Toronto. kevin.moriarty@mercer.com
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