On Nov. 15, 2012, regulations under Ontario’s Pension Benefits Act (PBA) were filed regarding the use of letters of credit (LC) to cover a portion of an employer’s solvency payments into a DB pension plan. These new regulations modify previously announced changes to the PBA (effective Jan. 1, 2013) that had not yet come into force.
For the most part, the new rules will allow an employer that is required to make solvency payments into a DB plan because of a solvency deficiency to provide an LC in lieu of a portion of the payments, provided that certain requirements are met. LCs may secure up to 15% of a pension plan’s solvency liabilities (determined as of the valuation date of the most recently filed actuarial report). The employer is required to make interest payments with respect to the amount of the solvency deficiency that the LC covers, unless the LC includes these interest payments.
The rules also govern who may hold an LC, the types of institutions from which an LC may be obtained, provisions that must be included in the LC (and in the trust agreement to which the LC is subject) and when the LC must be called by the trustee. There are also other obligations listed for the issuer, employer, trustee and administrator.
Holding and issuing the LC
When an employer obtains an LC, the employer must provide the original LC to the trustee of the pension fund (and a copy to the plan administrator) at least 15 days before the special payment to which the LC relates is due. An LC may be issued by a regulated bank or credit union that meets certain qualifications (e.g., a credit rating at least equal to “A” or “A2,” depending on the rating agency).
In order to obtain an LC to replace solvency special payments, the employer must ensure that the requirements set out in regulations are met, including the following:
• It must be an irrevocable and unconditional standby LC.
- The LC must be made payable to the trustee of the pension fund, in trust for the pension fund, in Canadian currency.
- The LC issuer must be contractually liable to pay out money under the LC terms if payment is demanded under it by the trustee of the pension fund.
• The LC must be subject to a trust agreement between the issuer and the administrator of the pension plan that addresses certain matters (see Trust Agreement Requirements, below).
Trust agreement requirements
The trust agreement to which the LC is subject must address certain matters, too, including the following:
- The trustee of the pension fund must hold the LC in trust for the pension fund.
- The trustee is required to demand payment of the LC under certain circumstances.
- The trustee is obligated to notify the administrator, the employer and the superintendent if the trustee receives notice that the plan is to be wound up or the employer is subject to bankruptcy or insolvency proceedings.
- If the trustee demands payment under the LC, notice must be provided to certain parties, including the superintendent.
- If the issuer does not promptly pay if a demand is made, notice must be provided to certain parties, including the superintendent.
When the LC is called
The regulations also set out the circumstances under which the trustee holding an LC is required to demand payment into the pension fund. These circumstances include the following:
- the non-renewal or non-replacement of the LC;
- a failure to comply with pension or tax legislation;
- the pension plan is to be wound up;
- the employer is subject to bankruptcy or insolvency proceedings; or
- the trust agreement otherwise requires the trustee to demand payment.
Although the employer decides whether or not to obtain an LC under these rules, the rules also impose obligations on the plan administrator. Specifically, within five days of the provision of the LC, the plan administrator must file with the superintendent a certified copy of the LC and a certificate indicating whether the LC meets the PBA requirements and tax laws. The administrator must also provide a copy of the trust agreement to the employer and the superintendent.
If an employer intends to use an LC, it requires certain documents, including the LC with the issuer, the trust agreement for the LC and the administrator’s filing obligations. Depending on the corporate governance structure of the employer and the issuer’s requirements, the employer may need a resolution of its board of directors.
By providing new funding flexibility, these new rules are expected to provide some additional relief to Ontario DB plan sponsors with solvency deficiencies.
These are the views of the author and not necessarily that of Benefits Canada.