Pension plan protection in a recession

For many Canadians, the notion that they will get their pension cash when they retire is right up there with death and taxes on the scale of inevitable events.

After all, one reason some people stay at a dead-end job or remain at their private sector post well beyond retirement age is so that they will receive a decent monthly stipend in their "golden years."

But, that expectation — of a cheque getting deposited every month into one's bank account — is now in jeopardy.

More Canadians are talking about their pensions over their morning cup of coffee.(The Canadian Press)

"Pension plan shortfalls are very unsettling topics, especially for retirees and nearly retired. I'm seeing more new stories of potential underfundings, even for some public pensions," said Adrian Mastracci, portfolio manager with Vancouver's KCM Wealth Management Inc., in an April newsletter to his clients.

Bad times for retirees

The downturn in the global economy, the rise in major corporate bankruptcies and the utter vaporization of once-lofty stock returns have thrown pension plan valuations in all countries into disarray.

Of course, previous recessions have seen the appearance of pension problems. But, the magnitude of the companies involved seems to be bigger.

For example:

General Motors Corp. is considering bankruptcy in order to restructure costs. That could entail a cut to its retiree obligations. And the Ontario government, which has a pension guarantee fund in the range of $100 million, has said it does not have enough cash to cover any payment shortfall for the automaker's pensioners.Air Canada, already flying through its own stormy financial skies, has asked for changes to its pension requirements, a move which could alter payouts, according to the Canadian Auto Workers which represents a number of the carrier's employees.Nortel Networks Inc. has already filed for bankruptcy protection. With its pension plan facing a reported deficit of $2 billion US, the British government said it does not have enough assets in its pension protection fund to pay the rest.

"It is a little different this time around. Pension plans seem more at risk," said Paul Forestall, worldwide partner for the Toronto office of the consulting firm Mercer.

Pension woes accelerate

The math involved in retirement plans usually inhabits an intellectual space many people consider as accessible as J.R.R. Tolkien's middle earth.

Falling stock markets have hurt the ability of companies to fund pension plans.(Henny Ray Abrams/Associated Press)

Talk of mortality tables, contribution rates and entry age normal cost method can be a quick way to clear a party. And usually workers do not care about the mathematical machinations of pension plans, only that, when they get older, they get what they were promised.

Over decades, however, the complexity of these plans and what retirees and potential retirees need to know about their funds has expanded like a helium-filled birthday balloon.

That is because during those same years companies, unions and government all conspired to find ways to pay for plans without destroying a firm's cash flow in the process.

Thus, some pensions slipped into unfunded status. In others, firms were given payments holidays. Fights broke out between management and unions over who owed the valuation surpluses in funds. Things got nasty.

But, in effect, everyone appeared content to ride higher stock market values to pay for any changes on the theory that any sort of financial reckoning would not occur.

During the past six months, that assumption proved wildly false.

The Toronto Stock Exchange dropped more than 50 per cent of its value comparing the 52-week high and its yearly low.

The equity slide in turn killed the ability of companies to use capital gains to replace cash contributions to cover retirement obligations.

Back in 2000, Canadian companies funded their pension plans with an asset-to-liability ration of a stellar 120 per cent, according to Mercer's pension health index.

By the end of the first three months of 2009, that measure of pension solvency had tumbled to 62 per cent.

"The financial health of Canadian pension plans was unsteady in the first quarter, primarily due to continued volatility in stock markets," Mercer wrote in a commentary on the latest index reading in April.

Consumer concerns

These days, older Canadians see the lack of an asset cushion for their pension plans combined with a greater chance that more companies could shut down as reasons to fear for their retirement.

"The market chaos that has enveloped the country has been particularly challenging for retirees but also for those who would like to retire," said the Canadian Association of Retired Persons in a recent submission to the federal Department of Finance.

Of course, one reason why the blood pressures of older Canadians are rising is that fewer of them are actually in a pension plan of any type.

Towers Perrin, another pension and compensation firm, estimated that in 2005,13.7 million men and women in this country did not have any sort of employee retirement plan.

That represented any increase of nearly three million people from 1992.

Those men and women relied upon their own ability to manage their money and pay for their retirements, experts said.

Available protection

Even if a worker has a retirement plan at work, he or she still could face trouble in the current market. But, at least they have some protection.

The first thing retirees need to keep in mind is that the cash that companies set aside is not an accounting fiction, but real money placed in its own bank account with a real administrator, said Jane Dietrich, an associate lawyer with the financial services practice of Fraser Milner Casgrain LLP.

"It's a separate plan," she said.

In the case of a bankruptcy, pensioners are fairly high up the creditor chain, ranking behind employee payments to government and back wages. That gives retirees a decent chance of getting at least a portion of their cash, Dietrich said.

To be in a union or not

Employees also get an added measure of protection if they are represented in the workplace by a union, experts said.

Generally, firms can wind up their pension plans, while conforming to existing legal requirements, at their own discretion.

If employees have a bargaining contract in place, however, management needs to talk to the bargaining agent before making pension plan alterations, Fraser's Dietrich said.

The flipside of a union in the workplace is that potential buyers might be scared off by any lingering pension obligations faced by the bankrupt corporation.

Benefit questions

Management and workers, however, can disagree on the actual amount owed to pensioners.

In the past number of years, companies moved away from providing relatively lucrative defined benefit plans — where a retiring worker receives a set amount of cash — and, instead, have switched to defined contribution schemes — where the amount the firm pays out is cut in stone.

Tower Perrin recently figured only 34 per cent of companies provided defined benefit plans in 2005, down 10 percentage points from 44 per cent in 1992.

Meanwhile, the number of workers covered by defined contribution plans grew to 893,000 from 460,000 over the same period.

Defined contribution plan — the employee pays a set amount of cash into a plan for benefits which are paid out depending upon the fund's value.

Defined benefit plan — the employee pays an established amount into the scheme but the firm pays out a set level of benefits regardless of the fund's value

As the stock market falls, so does the ability of a firm to cover a defined benefit plan, Mercer's Forestall said.

"If you have a defined benefit plan, you're in a bit of a tough spot," he said.

So, retirees holding these pensions might face a bigger loss of potential benefits than participants in defined contribution plans, who often receive smaller cash payouts.

Valuation dates

A pension's worth also hinges on the dates a company picks to figure out the plan's value.

Pick one day, say when stock prices are high, and the amount a firm needs to contribute to top up a plan's asset base drops.

Pick another time, say anything since the September 2008 credit meltdown, and the firm will likely need to fork over more cash to keep their pension fund solvent.

For management, a better valuation date would reduce their cash obligations, pension analysts said.

To reduce any sort of game-playing, however, the Canadian Institute of Actuaries essentially set Dec. 12, 2008, as a new, standardized valuation date for pension plans.

In addition, in its latest budget, the Ontario government set out that date for plans in Canada's biggest province.

Unfortunately, that day might prove costly for corporations, Forestall noted.

Actuaries figure out future payouts for retiring workers by using current interest rates. In effect, lower borrowing costs drive up employee benefits.

And December was a month with very low interest rates, he said.