The Senate Finance Committee is doing some preliminary work to determine whether a full study into pensions is appropriate for our committee. Some members, driven by Senator Eggleton, think that a full study is indeed in order considering the gravity of Canada’s potential pension problem. This is also my perspective.
The problem has been highlighted by the failure of Nortel and the impact that has had on its pension subscribers. Essentially the pension fund does not have enough money in it to sustain the promised level of payout to subscribers, either from underfunding or market setbacks (or both). There is cash still in the Nortel company, which could help the pension situation, but the pension subscribers have a lower priority under bankruptcy laws than other creditors. This means they will likely not have a very good chance to get some of this money. The argument for this structure of creditor priority is that if pension liability moves up any higher, then the cost of borrowing for the company would increase. That argument seems to mean, in my opinion, that the employees in the pension are subsidizing the company’s cost of doing business. It strikes me that the fairness of that is quite debatable.
The Nortel pension is a defined benefit (DB) pension plan. This type of pension promises to pay a certain retirement income based upon the level of income and the number of years of service. For example, a person that has 30 years in a plan that averages the last 5 years of income, say $50,000 in this example, and pays 1.5% per year of service would receive 45% of $50,000 or $22,500 per year. Companies and employees pay into the pension fund and then that amount and the investment returns are supposed to generate enough to pay out the promised retirement incomes. But if there are investment difficulties or company bankruptcy, this may not happen. Witness Nortel.
There are more issues with these DB plans:
- How should the quality of pension fund investments be regulated?
- When a pension fund is fully funded and has a certain level of extra ‘cushion’, administrators are allowed to stop company payments until the cushion is gone. This raises questions on how high the cushion should be before the company is entitled to suspend paying into the fund and must recommence paying into it.
- If there is a deficit in the fund, what are the requirements for the company to “fill that deficit in” and how fast?
- How long on average do people remain subscribers to a defined benefit pension? Long enough to ensure a comfortable retirement?
- As a rule, do defined benefit pensions deliver sufficient levels of pension income to ensure a comfortable retirement?
- Are there investment practices utilized by these pensions that might account for their difficulties?
These issues are central to defined benefit pensions and need to be addressed.
However, 11 million private sector workers in Canada do not have defined benefit pensions. Other Canadians in certain government jobs without DBs and often women who have chosen to stay home, and men for that matter, do not have DBs either. That means they are left for their retirement to depend upon their RRSPs and other personal savings (non-RRSP savings) or defined contribution pension plans which are really just RRSPs that your employer helps you fund. Some also get C/QPP and OAS/GIS. There are lots of issues in these plans too.
It is my experience that many people have no idea how much it takes in personal savings to generate a decent retirement income. $1.0 million at today’s interest rates would generate an income of about $35,000 per year. And, how many people have $1.0 million?
Many questions arise with this kind of retirement income:
- Do Canadians broadly understand the “math” of retiring on their own savings?
- How many people are subscribers to defined benefit plans versus depending upon personal savings?
- What is the average value of RRSPs in Canada today?
- What percentage of Canadians have RRSPs?
- What is the average annual contribution to a RRSP?
- What has been the effect on contributions to increased RRSP contribution limits?
- Is the current progression of contribution levels fair? That is to say, all contributions are limited to the same percentage of salary meaning that those earning more can contribute more? What would be the implication of allowing someone earning less wants to contribute more, even the specified maximum?
- What can someone reasonably expect to accumulate in an RRSP over various time periods, at various levels of contributions, under various rates of return, by the time they retire?
- How have personal RRSPs performed over the years?
- Are people generally aware of what level of savings they will require for their retirement?
- What are the many implications of circumstance in which many people are unable to retire because they do not have enough personal funds and/or their pension has not delivered sufficient funds for their retirement?
These are big and important questions and I hope our committee agrees to study them.