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Atlantic Connection ConferenceNew Brunswick’s Shared Risk PlanJuly 9, 2014

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Challenges facing traditional pension plans

Confidential – Not for Distribution

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DB plans are proving to be costly

Falling interest rates

Increasing life expectancy

Investment losses and volatility

Earlier retirements


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NB asked: are DB benefits secure?

Most believe DB plans are guarantees

The DB promise is only as good as the sponsor’s willingness and

ability to pay

When there is no longer an ability to pay, plans close and

benefits are cut (Fraser Papers, Nackawick, etc.)

When there is no longer a willingness to pay, benefits are

curtailed or changed


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DB plans create inequity across generations

Current DB legislation does not allow for reductions in accrued benefits

Only corrective pension actions areIncreasing active member contributionsReducing future active member benefit accrualsIncreasing employer contribution


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DB plans create inequity across generations

Increasing employer contributionsRevenue base relatively fixed If more of this money is diverted to the pension plan then

Maybe wage freezesMaybe fewer jobsMaybe reductions in other employee benefitsMaybe new equipment desperately needed isn’t purchased

The net impact of all of these actions is felt by active members only


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The New Brunswick JourneyConfidential – Not for Distribution

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How NB approached these problems

Appointed an independent Task Force

The mandate of the Task Force was to achieveSecuritySustainabilityAffordabilityTransparencyEquity


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How NB approached these problems

Public consultationConducted research on best pension systems in the worldProcess was consultative among the Province, Unions and the Task ForceUnions played a large part in the final design

New Brunswick Nurses UnionCUPENew Brunswick Union of Public and Private Employees


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The Shared Risk Plan is created

Process resulted in the creation of the Shared Risk Plan (SRP)

Draws inspiration from both DB and DC designs

On a high levelIntroduces benefit flexibilityIntroduces strong stable funding requirementsIntroduces rigorous risk management requirementsIntroduces independent governance

Legislation introduced on July 1, 2012 allowing any plan sponsor in the Province to adopt an SRP


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SRP has high security but no guarantees

Contribution rates set to provide very high security for base benefits and reasonable probability of achieving the benefit intention

However, accrued base benefits can be reduced in very poor economic scenarios

There are no absolute guarantees


Two levels of benefits are defined:Base benefits and Benefit Intention

BASE

INTENTION

BENEFITS

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SRP benefits absorb volatility


Typically conditional pre and post retirement indexing varies and absorbs a lot of the plan volatility

Surpluses to be used on member benefits

Sponsor has no right to surplus

Sponsor has minimal opportunity for contribution holidays

BENEFITS

Benefits fluctuate based on plan performance

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SRP has strong legislated governance


Funding policyGives Trustees a set of benefit and contribution instructions agreeable to both parties under which they are to operate

Investment policySets out target asset mix and investment goals

Rigorous risk managementAnnual monitoring and complianceAt least 1,000 20-year scenarios tested each year

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SRP governance requirements work together

Together they must satisfy benefit security tests set out in the Regulations

97.5% probability of not reducing base benefits over a 20 year periodAt least a 75% probability of providing benefit intention

Typical best estimate DB contributions have about a 50% chance of providing fixed DB


All aspects of these requirements work together

FUNDING POLICY

INVESTMENT POLICY

RISK MANAGEMENT

ANNUAL MONITORING

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SRP has certain employer advantages

Employer commitment is only the contributions in the funding policy

Employer has no responsibility to backstop deficits if they arise

Cost stabilityEssentially works like DC (with a narrow range of contribution levels) for the employer


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SRP has employer trade-offs

Contribution holidays are not permitted unless required by the Income Tax ActSuch holidays are expected to be very rareLarge majority of generated surplus spent on member benefits


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SRP has certain advantages for the member

Employer can’t take contribution holidayLarge majority of generated excess funding spent on member benefitsGoverned by Arm’s length TrustUpside potential to participate in plan gains for both active members and retireesStable contributions within a narrow range


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SRP has certain advantages for the member

Very high benefit security

Intergenerational equityAll members participate in surpluses and deficits, not just active members

Still providing DB-like benefit to membersStill pooling longevity riskBase benefit based on salary / service history


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SRP has member trade-offs

Base benefit likely less than current DB “promises” to meet security targets

Base benefit not guaranteed

Ultimate benefit difficult to predict

Contributions may be higher than current


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Why consider SRP?

Cost stability for sponsors and members

High benefit security

Rigorous governance and risk management

Investment and longevity risk pooling

Benefit aligns with what the plan can afford to payContributions + Investment income = ultimate level of benefits


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What lessons did we learn

Be collaborative and transparent

Be realistic about the problems

State outcome goals up front

Take a long term approach

Think differently!


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Appendix: Progress made


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What’s happened since SRPs were introduced

SRP legislation was effective July 1, 2012

We know of at least 10 plans that have converted or have announced their intent to convert including:

Certain Bargaining Employees of NB HospitalsCity of FrederictonCity of Saint JohnPublic Service Superannuation Act (Province of NB)University of New BrunswickSaint John Energy


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On April 24, 2014 Canada’s Federal Department of Finance issued a consultation on target benefit plans

Many proposed concepts similar to NB SRP

Would allow SRP-like plan design for federally regulated pension plans such as

AirlinesTelecommunicationsRailways


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Province of Prince Edward Island recently made similar changesFlexible benefits pre and post retirement to reduce cost volatilityExpropriation of vested indexing rights to improve intergenerational inequityStochastic measurement and communication of risksFunding policy to manage contributions and benefits

These changes were made to their two largest public sector pension plans


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What’s happened since SRPs were introducedGovernment of NB successfully negotiated a pension deal with Teachers’ union

In the fall, op-ed in the paper from three union presidents supporting the design

National and international attentionAn entire chapter in Jim Leech’s book “The Third Rail”A large Ontario plan worked with us to explore SRPMultiple industry speaking engagements all over Canada and the USMultiple articles in Benefits Canada

We’re here talking to you today!Confidential – Not for Distribution


Visit us: morneaushepell.comFollow us: @Morneau_Shepell

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Thank YouPaul T. Lai Fatt, FSA, FCIA

Partner

[email protected](902) 474-3236

http://www.morneaushepell.com/

https://twitter.com/Morneau_Shepell

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