Perfecting the process

In this turbulent economic climate, any reference to pension plans automatically implies elements of risk. Many risks have been well publicized: asset losses, interest rate fluctuations and non-compliance with regulatory standards. But there are other risks that have garnered less attention—except when they have surfaced to publicly embarrass the plan sponsor. They are the risks associated with plan governance and administration processes.

For plan sponsors, a sound approach is to engage in a robust control and risk assessment to deal with compliance, governance and process-related risks. And the group best positioned for this type of assessment, due to its independence and understanding of risk, is internal audit.

A pension review gives the plan sponsor an independent assessment of the design and operating effectiveness of the controls in place in the pension plan. It also results in an evaluation of process efficiency, resources and skills, and applicable policies. It is not only an effective way to test and confirm the adequacy of the control environment, it can also highlight areas where appropriate controls have not been established or have not been executed effectively.

Primary Audit Areas
An internal audit of the pension process typically focuses on a number of key areas. Here, we’ll take a look at some of these areas and common gaps in the pension process. (Note: the majority of these items relate to defined benefit plans. Defined contribution plans have their own set of requirements, such as the CAP Guidelines.)

Investments – All pension plans must have in place a Statement of Investment Policies and Procedures (SIP&P), which governs the selection of the plan’s investments. Besides ensuring that the SIP&P exists and is current, it is important to verify that the plan complies with it.

Plan member data – The accuracy of the member benefit calculations, as well as the actuarial valuations, depends on the data. At times, the data in the company’s system and the data that are used by the plan administrator and actuary may not be the same. Frequently, this is a result of using multiple systems to store the data, failure to communicate correct pensionable earnings or breaks in service, or failure to include all covered groups of employees.

Plan funding – The actuarial funding reports prescribe the minimum and maximum contributions that employers are required to make to the pension plan. Often, these contribution requirements are tied to the number of employees or to the covered payroll. There are also requirements around the timing of the contributions. If the employer does not contribute to the plan appropriately, the plan’s registration status may be jeopardized.

Accounting for the pension plan – External auditors usually audit the pension plan’s financials at year-end. It is therefore important to have an appropriate control system in place to set accounting assumptions and to communicate to the actuary any changes to the plans (including changes that are not written into the formal plan document). Without appropriate controls, the financial reporting may be inadequate. Once a set of accounting policies is selected, it must be applied consistently.

IFRS – The International Financial Reporting Standards (IFRS) will soon replace the Canadian Generally Accepted Accounting Principles. There are a number of significant differences between the two standards when it comes to pension accounting, but not all of them are purely accounting changes. Adopting IFRS can also affect the way the pension plan is managed. It is important that pension issues are appropriately considered during the IFRS conversion process.

Regulatory compliance – Not surprisingly, a key compliance component is filing all of the reports and forms and paying the necessary fees, correctly and on time. Challenges can arise when different plans are registered in different jurisdictions. There may be different filing requirements and deadlines, but plans must also be updated for any changes in local regulations. Some provincial rules will affect how plans are managed and how certain benefits are calculated.

Plan member communications – Most plan sponsors have processes in place to meet the deadline for providing plan members with their benefit statements. However, sponsors sometimes fail to communicate plan changes to the members appropriately and on a timely basis—including changes to unwritten policies, such as a decision to cease providing ad hoc pension increases. Not only can this create problems for employees, but it can also affect the way these plans are accounted for and valued.

Benefit calculations – It’s important to have a solid control process in this area, as any errors can significantly affect the individual plan members whose benefits are being calculated. Ensuring the completeness and correctness of the data is the starting point. However, correct and consistent interpretation of the plan rules is a must, as is the determination of assumptions and the proper communication of benefit options.