We noticed last week after the federal government’s welcome announcement to commence a consultation process on target benefit plans (TBPs) that much of the media coverage and discussion focussed on the Canada Pension Plan (CPP) and the fact that the federal government appears to have rejected the option of enhancing CPP at this time. We are writing this post to discuss why the CPP enhancement debate is a different issue from the introduction of rules regarding TBPs.
Stepping back, it is key to remember that retirement saving in Canada is based on three main pillars: employment pension plans and individual savings, Canada/Quebec Pension Plan and universal government benefits that apply to seniors (OAS/GIS). The idea is that all three pillars play a role in ensuring that Canadians have adequate retirement savings income. The federal consultation on TBPs relates to the employment pension plans and individual savings pillar, not CPP/QPP. If implemented, changes to allow TBPs in the federal sphere may assist with the employment pension plans and individual savings pillar.
It is well known that private sector DB pension plans have been on the decline over the past couple of decades for many reasons, including cost uncertainty and volatility, and accounting treatment. TBPs would provide a different design option outside the traditional defined benefit (DB) and defined contribution (DC) options for federally-regulated employers who wish to provide a pension plan to their employees.
And why may TBPs help enhance private sector pensions? Employers are concerned about several DB issues, including cost certainty and risk sharing and have been exiting DB plans in favour of DC or other capital accumulation plans that really amount to savings vehicles, as opposed to pension plans. TBPs address the DB issues, as employer costs are fixed (or are subject to minor variation within a pre-determined range) and more risks are borne by members than in a traditional DB plan.
TBPs, like DB plans, provide a targeted DB-type benefit on retirement. This is attractive to employees. TBPs also provide longevity and investment risk pooling, like DB plans. Longevity risk pooling is a key attraction of these plans – unlike DC plans, DB and TBP members don’t have to guess how long they may live and worry about outliving their savings. However, unlike DB plans, benefits under a TBP may be reduced. Target benefit plans are designed to be adaptive and flexible – responding to economic and other changes.
The CPP debate is an issue involving a different pillar of Canada’s retirement savings system. Enhancement of CPP raises broad public policy and economic issues which are also extremely important, but are separate from the debate over the introduction of private options such as TBPs. It is our view that this most recent announcement by the federal government should be viewed as a laudable step in facilitating alternative plan designs in the private sector. Hopefully, if other cost certain pension designs, such as target benefit, are available the recent trend from DB to DC or other capital accumulation plans can be slowed or halted.