Good afternoon.
Before I get started, I will just make sure that you have received some papers we had deposited, three tables in particular, to be circulated. I will be referring to them.
Thank you.
Good afternoon, and thank you for granting the Certified General Accountants Association of Canada the opportunity to discuss with the committee the current state of defined benefit pension plans in Canada. The Canadian retirement system is an ongoing area of interest of CGA Canada, as is the financial condition and prospect of Canadian households. Today we'd like to underscore with you the magnitude of the pensions challenge by identifying how the deficits of private pension plans have deepened.
Our work on the topic of defined benefit plans was initiated in 2004, revealing that with indexation of accrued benefits, an estimated $160 billion would be required to fully fund deficit pension plans at the end of 2003. Revisiting that number in 2005 for the 2004 year end, we learned that it had increased to an estimated $190 billion. While we're continuing to study 2008 year-end results, preliminary analysis signals a funding shortfall significantly exceeding $300 billion.
Relying on the supporting expertise of Mercer Human Resources Consulting and the information contained in its 2008 pension database, the funding position of Canadian pension plans at December 31, 2008, has been estimated under a “risk-free basis” approach. That risk-free basis, reflected in table 1 before you, removes any discretion in the selection of “going concern” assumptions of each plan, and it removes the influence of the investment policies in the selection of such assumptions.
In short, we wanted to make it simple for our calculations. We pegged the interest rate at 3.5%, based on long-term Government of Canada bond yields, and indexation has been set at 2%, based on blended pre- and post-retirement indicators.
Our analysis is based on approximately 760 plans covering a total of approximately 1.5 million members as of December 2008. In 2004 we studied 784 plans consisting of 1.8 million members. These plans represent approximately one-third of the total defined benefit plan market.
Including those of trusts and insurance companies, there are an estimated 7,000 defined benefit plans and an estimated 8,000 defined contribution plans, having an estimated 4.5 million and 0.8 million members respectively. Defined benefit assets exceed $550 billion, while defined contribution assets represent an estimated $50 billion.
It's apparent that the overall funding position has significantly deteriorated since December 31, 2004, with and without indexation of benefits. That is, the average funding ratio has decreased from 112% to 77% on a “without indexation” basis, and from 71% to 57% assuming indexation is calculated.
And whereas 59% of the plans were found to be in deficit at the end of 2004, that number stood at 92% by the end of 2008. It's not necessarily a surprise, given the performance of the capital markets, but I thought it was nevertheless notable.
The main results that I have just explained are contained in the two tables before you, tables 2 and 3. They compare the 2004 and the 2008 year ends, the first without indexation and the second with indexation.
The global events that eroded pension asset values, interest rates, and investment returns had a devastating effect on Canadian pension plans. In the six months from September 2008 to February 2009, the typical pension plan lost about 20% of its asset value, measured on a “fair market value” basis. According to estimates, 71% of the Canadian defined benefit plans were in a solvency deficit position at the end of 2007. As previously indicated, that escalated to 92% by the end of 2008. We also saw at the end of 2008 that almost 40% of those plans had solvency ratios of less than 70%, and over 70% had solvency ratios of less than 80%.
Going forward, CGA Canada encourages the federal government to effect the previously announced measure of increasing the pension surplus threshold for employer contributions from 10% to 25%.
We also continue to see enhanced protection for plan members that recognizes more fully the character of pension benefits as deferred compensation that requires greater recognition as secured debt of the company and enhanced consideration in the creditor hierarchy. Consistent with earlier submissions to the Department of Finance, we contend that deliberate clarification is required regarding the following: the ownership and distribution of surpluses on plan termination, letters of credit, the time span for the funding of deficits, and the prescribed solvency ratio levels.
Should more radical departures be envisioned, one potential opportunity resides in the alternative of designing a time-weighted methodology that reflects and accounts for the respective contributions and actions of plan sponsors and members. In time, we expect that the establishment of pooled defined contribution arrangements and multi-employer pension plans will gain greater acceptance.
It's worth mentioning also that in stark contrast to sharp increases in funding requirements caused by the recent crisis, the cost of pension plans, reported in most sponsors' financial statements, experienced significant decreases in 2009. This is because most plan sponsors set the discount rates used to calculate the cost of their plans, for financial reporting purposes, by reference to high-quality corporate bond yields. Those bond yields irregularly soared to as high as 8%. Such target yields increased dramatically the results in the last quarter of 2008 and the first quarter of 2009. What that means is that for plan sponsors whose fiscal year fell within that timeframe, the increased rates typically caused the reported pension expense to be much lower the following year. This disparity between lower reported costs on financial statements and greatly increased cash needs in the same year may prove difficult for sponsors to explain to stakeholders.
The crisis has had a significant effect on many pension plan members, some more directly than others. For some members of defined benefit plans, there have been significant and direct effects. At worst, in cases of sponsor insolvency or winding down, and where the plan was also significantly underfunded, the plan members will experience permanent reductions in benefits already accrued. The high-profile nature of some of these cases has highlighted for members that even in defined benefit plans there is no 100% guarantee. Moreover, it underscores that pensioners continue to be dependent on the long-term financial viability of their former employer.
CGA-Canada believes that the crisis can best be soothed by adopting a holistic approach rather than piecemeal measures, unless those ad hoc measures deliberately respond to the desired end state. Many of the issues that impair the optimal funding and condition of defined pension plans have existed, in some instances, for decades. We applaud the current public initiatives to study and reform the rules and expectations surrounding pension plans. We also support fully the implementation of necessary strategic and structural changes that would contribute to a fair, responsible, sustainable, and efficient retirement system that secures the future of all Canadians. These are changes that more copiously recognize that earned pension benefits represent deferred compensation, not a conditional game of chance.
We must also be mindful that the majority of Canadians are not afforded employer-sponsored pension plans and that as much as 35% of the adult Canadian population does not commit to any type of regular savings. Taken in tandem with CGA-Canada findings on escalating household indebtedness and a reduced proclivity to save, we understand full well the apprehension of Canadians in relation to retirement security. And while economic growth may once again be in our grasp, the full benefit for society will only be felt over time as the government again achieves a balanced budget, as real incomes grow, and as the capital markets recover.
In closing, while we appreciate that the opportunity may be ripe to pursue pension reform, we encourage that adequate time be afforded to study and understand this relatively complex matter. We are encouraged here today to observe this committee hosting these consultations. We are likewise encouraged by the growing appetite for coordinated pan-Canadian action that harmonizes the efforts of federal and provincial stakeholders. In so doing, we are more likely to enhance information symmetry and to introduce comprehensive, systematic, and lasting improvements.
Ladies and gentlemen, thank you for your time.