Sustainability is a clichéd, overused word in the DB pension plan arena these days. Sustainability focuses on delivering an appropriate retirement benefit at an acceptable cost. In some ways, sustainability is a way to cloud the real issue: it always seems to come back to affordability.

The fundamental pension equation of benefits + expenses = investment earnings + contributions holds the secret of DB trouble today. Our current low-return investment environment is driving contributions up in order to pay for the same level of benefit promised years ago at the time of plan inception. There is no doubt that times have changed. Add solvency funding requirements to the mix and all of a sudden DB pensions have become less affordable. So it’s not surprising that unions and employers are finding pensions a main topic of discussion at the negotiating table.

Negotiating pensions can be very painful if transparency and trust are lacking between the two parties. Solvency problems have contributed to that lack of trust, as the real issues of the plan get muddied between those that are cyclical versus structural in nature. And of course solvency relief becomes a short-term distraction that complicates the situation even further. The real insight into the long-term health of the plan, and whether or not there is a need for structural change, comes from its going concern valuation. DB plans can be sustainable without gutting the DB promise, by a combination of modifying certain provisions to reduce risk and/or cost, and increasing member contributions to better balance the cost-sharing equation. In general, unions are not opposed to these concepts once they understand the rationale and need for change to the plans, and once employers do away with the “sky is falling” cry.

Read more: Pension sustainability requires new thinking

Capital accumulation plans (CAPs) are not always the answer. DB plans may look really ugly right now as reality sets in in terms of how much pensions actually cost. But at least the ugliness is being dealt with head on through negotiated benefit and/or contribution changes, which will result in a more secure pension promise to its members. Many surveys tell us that Canadians are willing to give up some current pay in exchange for greater retirement predictability and security. With CAPs, the ugliness is in the risk that at retirement there won’t be an adequate income from the plan, forcing people to keep working as the only viable solution.

However, even when cost is under control, employers still bear the brunt of the risk with traditional DB plans. This often means weathering the volatility of the markets and economy in unison with the ups and down of their business. In reality, members are beginning to bear more of the risk of DB plans anyway through some of the current types of plan changes occurring, so it would make sense to also consider a formal joint sponsorship arrangement as an option. With joint sponsorship, the plan can be granted an exemption from solvency funding, which eliminates much of the contribution volatility risk. In addition, members can take a more vested interest in their plan by having a voice in how the plan is managed or governed.

Read more: Sustaining pensions in union environments

Taking it one step further, the jointly governed target benefit plan is a viable alternative to the traditional DB plan. Under this arrangement, both employer and member contributions are fixed by a set formula, and the benefit can be increased or decreased as necessary depending on funded levels of the plan. The assets are pooled and quite often have access to alternative investments at a lower cost than would typically be available to individual members under a CAP. Under these arrangements, members assume the investment risk collectively and can earn additional investment return, which can significantly increase the DB pension at the end of the day. Similarly, other risks such as longevity are also shared among members.

DB plans can still work in the union environment, and elsewhere, with some modification to the terms of the plan that were originally set up in a very different era. So don’t throw in the towel just yet, but instead be open to change and innovative variations on the traditional plan. All options are definitely worth exploring.

Cindy Rynne, FSA, FCIA, is a senior consulting actuary with Buck Consultants, a Xerox company. These are the views of the author and not necessarily that of Benefits Canada.

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Copyright © 2020 Transcontinental Media G.P. Originally published on benefitscanada.com

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