Maximizing the value of solvency funding relief

For a sponsor so electing, the SRR can reflect some or all of the following options when determining the minimum required contributions for the plan:
1 – defer commencement of new amortization schedules for up to twelve months;
2 – reamortize the balance of solvency amortization schedules from previous actuarial valuations over a period not to exceed five years; and
3 – with the applicable level of consent (lack of dissent) from members (or their unions where applicable) and former members, amortize any new solvency amortization schedules revealed in the SRR over a period of up to ten years, instead of the normal five-year period.

In addition, for valuations effective after December 11, 2008, the solvency liabilities may be determined using the new commuted value methods and assumptions published by the Canadian Institute of Actuaries (the “New CIA Standards”) earlier than their effective date of April 1, 2009.

As a result of market declines and other economic developments during 2008 and into 2009, some organizations may be faced with the dual challenge of a downturn in their core business and large pension deficits requiring additional contributions. The solvency relief provided by options 1 and 2 provide a degree of contribution reduction, particularly during the 12 months immediately following the effective date of the SRR. Notwithstanding the requirement that sponsors who make one or both elections must provide increased disclosures to members and former members, a number of sponsors are expected to make use of these options.

However, it is option 3 which may have the largest impact on the timing of required future contributions to the plan. The requirement that no more than one-third of the “voting members”—former members, non-represented members, and the union representative, as applicable—object to option 3 is likely to make obtaining a ten-year amortization period a non-trivial exercise for some employers.

Given the potential contribution reduction that can result from a successful consent process, sponsors should not be too quick to give up on this option. Assuming the communication with voters is well done and the voters are provided with clear information about the decision they are being asked to make, some employers may be rewarded with the necessary support.

While the solvency relief regulations specify various disclosure elements to be provided to voting members, there is considerable latitude for the sponsor to develop their communication strategy and materials so that this information is delivered in the appropriate context. This provides sponsors with the opportunity to clearly indicate how the additional solvency relief will help the organization through this downturn, particularly if the cash savings may reduce cutbacks elsewhere in the business.

In many cases, the communication can provide a forum for the sponsor to remind plan members that long-term pension security generally relies upon a financially strong sponsoring organization. A balanced message which fairly outlines the risks and realities of pension plan management may be more likely to mitigate some of the concerns members may have with the recent decline in the funded status of the plan. Clearly, the level of trust and overall relationship between the company and its employees and unions will be a key determinant of the outcome.

Some sponsors may assess that they can still afford the required contributions without making use of the solvency relief options. In addition, some organizations may have a funding policy which guides them to bring the plan to a specified funded level sooner than would occur with the solvency relief. Such organizations may want to give thought to the notion that solvency relief does not necessarily have to equate to a lower actual contribution–rather, the relief provides a reduction in the level of required contributions. Thus, to the extent the sponsor contributes at a higher amount, the plan’s prior year credit balance (PYCB) will be developed or augmented.

In this way, if events unfold such that the organization so requires, the sponsor can make use of the PYCB to reduce future cash flows. In addition, sponsors need to make at least one election under the solvency relief to permit them to apply future gains to reduce the rate of the solvency amortization schedules established in the SRR (otherwise gains must be used to shorten the amortization terms).

As a result of the changes to the discount rate and mortality table methodology, the New CIA Standards are expected to slightly reduce the solvency liabilities of a typical pension plan. Unless a full or significant partial plan windup has been declared—or events have occurred such that a full or partial windup declaration is likely—most sponsors will conclude that any future plan windup will be subject to the New CIA Standards, and will therefore direct their actuary to use the New CIA Standards when filing the SRR.