Last week’s federal budget proposed more borrowing flexibility for registered defined benefit plans.
The proposal would replace the historical 90-day term limit on short-term borrowing with restrictions based on plan assets: additional borrowed money can’t exceed the lesser of 20 per cent of the plan’s assets and the amount by which 125 per cent of the plan’s actuarial liabilities exceed the plan’s assets net of unpaid previous borrowings. Plans must redetermine their new borrowing limits on the first day of each fiscal year of the plan.
The budget leaves in place the current rule regarding borrowing for income-producing real property, where the borrowed amount is limited to the cost of the real property and only the real property is used as security for the loan.
The changes to short-term borrowing come as the liberalized borrowing rule that accompanied the onset of the coronavirus pandemic is set to expire. The rule permitted loans to the end of April 2022 in recognition of the possibility that the public health crisis might create liquidity problems for more DB plans.
“The proposal is an acknowledgment by the Department of Finance that the 90-day rule was too rigid, especially because breaking the rule could jeopardize a plan’s registration,” says Jeffrey Sommers, a pensions, benefits and executive compensation partner at Blake, Cassels & Graydon LLP. “It’s a positive development that aligns with the Canadian Bar Association’s recommendations.”
The short-term borrowing limit, according to Sommers, is an “operational” rule. “It allows plans to borrow in the event of short-term liquidity issues. For example, situations that might require them to sell investments at unfavourable prices in order to pay out benefits immediately.”
Sommers does note, however, that the CBA’s recommendation didn’t include the second part of the test, which is based on liabilities. “If the plan is more than 125 per cent funded, the borrowing capacity is ground down to zero. But that makes no sense, because even well-funded plans can have short-term liquidity issues.”
While the budget gave no explanation for the liability portion of the test, Sommers wonders whether the thinking was that well-funded plans should be planning better for liquidity issues. He’s seeking clarification from the government.
Meanwhile, Jordan Fremont, a pensions, benefits and executive compensation partner at Bennett Jones LLP, believes his DB pension plan sponsor clients were, for the most part, “not fomenting” for change to the short-term borrowing rule. “I think the changes are coming from larger plans that see the 90-day limit as restrictive and as making things more complicated.”
When enacted, the rule changes will apply retroactively to April 7, 2022. Pension standards legislation will continue to apply, meaning administrators must act with a duty of care, make investments in a reasonable and prudent manner and fund the plan in accordance with prescribed funding standards.