As Canadians continue to debate changes to public pension programs, Illinois is tackling the retirement savings issue with its new Secure Choice Savings Program that will start deducting contributions from employees’ paycheques next year.
The program, which will be up and running just before Ontario starts collecting premiums under its Ontario Retirement Pension Plan on Jan. 1, 2018, provides for automatic enrolment as of June 1, 2017, of all employees in the state who work for an employer that has at least 25 employees and has been in business for at least two years.
Once enrolled, staff can choose to opt out of the program. If they choose to stay in, employees can contribute as little or as much as they want, but the program provides for a default of three per cent of salary with the money going into an individual retirement account (known as a Roth IRA), which is similar to a registered pension plan. Contributions aren’t tax deductible, so individuals can withdraw from the pension early without a penalty beyond the normal income tax. From age 59.5 and five years of contributions, withdrawing from the pension is tax free.
“[It has] low-cost administration, low-cost investment management fees, [and] I applaud it,” says Scott Sweatman, a partner at Dentons Canada LLP’s Vancouver office who specializes in pensions, benefits and executive compensation.
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The Roth IRA’s default fund will be a target-date life-cycle fund that adjusts risks according to a specified retirement year. However, the program will offer at least three other options, including one or two more conservative investments and one or two riskier investments, according to Ryan Gruenenfelder, a manager of advocacy and outreach for AARP Illinois who has been directly involved in designing and passing the pension legislation.
A private firm chosen by and overseen by a board of directors will manage the investments. The board consists of the chair, Illinois state treasurer Michael Frerichs; Illinois state comptroller Leslie Munger; Kim Fowler, designee for the governor’s office of management and budget; and four other members appointed by the governor who represent various industries.
One of the significant ways that the Ontario Retirement Pension Plan differs from Illinois’ pension is in who contributes. While the Ontario plan requires 1.9 per cent from both the employer and the employee, the Illinois arrangement provides for a three per cent contribution from workers, who are also on the hook for an additional 0.75 per cent in administration fees. The plan explicitly forbids employer contributions. The only expectation for employers is to inform their employees of the requirement to enrol and either set up a direct deposit from their salaries to an investment fund manager or provide a signed form stating their desire to opt-out.
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The lack of employer contributions is due to the U.S. Employee Retirement Income Security Act of 1974, says Gruenenfelder. If the plan allowed for employer contributions, the program would fall under the jurisdiction of the act — which sets strict standards around employer-provided retirement savings plans — and would be subject to more stringent rules, something that would have resulted in too much “political pushback” from businesses groups for the law to pass, he adds.
Illinois’ program also differs fundamentally in how payments at retirement will work. The Ontario pension plan looks to provide a defined benefit, the Illinois pension is “designed to have defined contributions,” says David Smith, managing director at Marquette Associates, a Chicago-based investing consultants group for institutional investors.
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Despite these key differences, the plans share similar aspirations. “It’s mainly meant to fill a retirement savings gap, and the reason we pushed the law in general is that more than half of Illinois employees, around 55 per cent of employees, across the state of Illinois do not have access to an employment-based retirement savings plan,” says Gruenenfelder. “The vast majority of them don’t have retirement savings occurring outside of social security.”
Mariette Matos, a pension lawyer at Bennett Jones LLP in Toronto, says Illinois’ pension program compares favourably to the ORPP in some respects and fares worse in others. When it comes to the drawbacks of the Illinois program, she cites the optional nature, the employee-only contributions and the fact that it’s only applicable to companies with at least 25 employees and two years in business. “It doesn’t go to the same extent, it doesn’t take retirement savings as far as the ORPP does,” she adds.
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The stricter requirements of the ORPP, including mandatory enrolment for all employers and high comparability standards to be exempt, are both a boon and a shortcoming, says Matos, citing the lack of flexibility in investment choice and contribution rates as disadvantages in comparison to the Illinois program.
“If [employees] would prefer not to have strict requirements whether it’s good for them or not, the Illinois savings program certainly gives them the ability to opt out and the flexibility in contributions, and then if they do participate, the ability to get more closely involved and select investment options,” says Matos.
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Gruenenfelder says some of the characteristics of the Illinois program are purely political, including the lack of required contributions from employers. In addition, the optional nature of the program and the size of the employer are a result of the fact that doing otherwise would have been “politically unfeasible,” he adds.
Other aspects of the program, such as automatic enrolment, are an effort to play to human psychology and reflect the notion of putting individuals in “a situation where you have to go out of your way to get out of saving,” says Sweatman.
In Canada, many critics of the ORPP would prefer expansion of the Canada Pension Plan, an issue finance ministers are meeting later this month to discuss. South of the border, Gruenenfelder hopes for nationwide changes to retirement savings. “We would like it to go nationwide,” he says. “AARP has been working in every state office to pass Secure Choice, or what we call ‘work and save’, in as many states as we can. All eyes are on us.”