The Office of the Superintendent of Financial Institutions has published guidance on its interpretation and expectations for the default investment option selected by the administrator of a defined contribution pension plan.
The guidance sets out how a plan administrator should select a suitable default investment option, as well as how it should document, communicate and review the information.
With regards to selection, the guidances notes a plan administrator can offer either the same option for all plan members or structure it to provide different investment choices. “While it is not expected that the administrator’s selection of a default option accommodate individual plan members’ risk tolerances, it should, depending on the approach, take into account, either the general characteristics of the plan’s membership as a whole, or the individual plan members who will be invested in the default option (by, for example, taking into account their age or expected retirement date),” the guidance states.
It also describes two types of investment funds a plan administrator could consider: a balanced fund, which offers a mixture of safety income and capital appreciation, and a target-date fund, which typically reflects the age or expected retirement date of the individual member and gradually adjusts asset allocation over time to reduce risk.
Plan administrators also have a fiduciary responsibility to ensure the pension plan’s assets are invested in a prudent manner, the guidance noted. “An administrator should therefore establish, implement and adhere to policies and procedures that support its responsibilities with respect to investment options offered to members, including the default investment option. Administrators of pension plans that offer member choice accounts should document the process and the rationale for selecting the default investment option.”
The guidance also urges plan administrators to pay close attention to how they describe the default option to plan members. In doing so, the description should include its investment objectives; the type of investment and the degree of risk associated with it; its top 10 holdings by market value; its performance history; a statement that its past performance isn’t necessarily an indication of its future performance; the name and a description of the benchmark that best reflects the composition of the investment option; the cost associated with the investment option, expressed as a percentage or a fixed amount; and its target asset allocation.
“If the default investment option selected by the administrator is a target-date fund, OSFI expects that an explanation of the target-date fund and an illustration of the glide path be provided,” the guidance stated.
“To a large degree, most plans use some kind of target-risk or target-date fund as the default,” says Paul Timmins, senior consulting lawyer at Willis Towers Watson. “So here’s OSFI just saying, ‘If you have a default, we really think you should be using it as a target date or balanced, and you should be giving your members a bit more information about what a target-date fund is rather than just assuming they understand that.’
“At a high level, we might think they’re all the same, but there are differences, from one to the next. So people can understand what it is they’re getting if they don’t make any specific elections.”
Although the guidance doesn’t stimulate a preferred timeline, it does note that plan administrators should also review the design, performance and continued sustainability of the default investment option on an ongoing basis. “A review is especially important when certain events occur that could reasonably be expected to have an impact on the appropriateness of the default investment option.”
Such events could include a change in the age and risk profile of the pension plan membership, consistent overperformance or underperformance of the underlying funds used in the investment strategy, a change to the cost of the default investment option, a change in the manager of the fund or significant changes in financial markets or the economy.