The Canadian Source Of Employee Pension Fund Investment And Benefits Plan Management

Back Issues

Are You Prepared For Commuted Value Standards Changes?

By: John R. Richards

February 1, 2005, a new standard for determining pension commuted values goes into effect. John R. Richards, of Avalon Actuarial Consulting, explains what plan sponsors need to do.

Anew Standard of Practice for Determining Pension Commuted Values (the ‘Standard’) was issued by the Canadian Institute of Actuaries on July 14, 2004, effectively replacing the current Recommendations for the Computation of Transfer Values from Registered Pension Plans (the ‘Recommendations’). The effective date of the new Standard is February 1, 2005.

Whether by direct or indirect reference in the various provincial pension acts, the Recommendations have formed, since 1993, the minimum basis for transfer values out of Defined Benefit pension plans. The result is most, if not all, DB plans in Canada will be affected by this change. The solvency position of ongoing plans will also be impacted.

The Standard applies when determining lump sum values to be paid out of a registered pension plan in lieu of an immediate or deferred pension on death, termination, reciprocal agreements establishing a Defined Contribution lump sum, or in certain legislated circumstances on marriage breakdown.

The Standard does not apply in more specialized circumstances such as under non-registered pension arrangements, conversions, shortened life expectancies, discretionary commutations of pensions in payment, and in valuing pensions on marriage breakdown. These situations form many of the day-to-day administrative tasks performed by the plan administrator.

So how is the ‘new’ Standard different from the ‘old’ Recommendations?

Last Updated

The Recommendations were last updated back in 1993. Since that time, there have been changes in the financial markets which affect the value of immediate and deferred pensions. Two significant adjustments have been reflected in the Standard.

The market discount rate assumption has been changed to reflect the use of two variable interest rates; one interest rate for the first 10 years and a second rate thereafter. Each rate is based on the market yield of a specific Government of Canada bond series. Indexing provisions of the plan are reflected. The previous Recommendations mandated the use of a single variable interest rate with a fixed rate applying after 15 years.

The mortality basis has been updated to a more current mortality table – UP-94 with projected improvements to 2015.

It is worth noting that the change will result in higher volatility in commuted value results to members, as well as, in general, in higher commuted values for male members (a result that I particularly am enamored with as the new mortality tables expect males to live longer). Based on current rates under the new Standard, pension plans with indexing provisions will generally see a reduction in commuted values.

The Standard is to be applied effective February 1, 2005, and early implementation is prohibited! Although not specified in the Standard, it would seem reasonable to assume that if the ‘computation date’ – for example, the date of termination – is before February 1, 2005, the Recommendations would apply. The Recommendations are formally written into the law in several provinces (Ontario, Quebec, and New Brunswick) and will require amendments to the provincial pension acts. A member who terminates after February 1, 2005, may be, by virtue of his or her geographical work location, treated differently if the specific legislation has not been updated by February 1, 2005. It is anticipated that the respective acts will all be updated eventually.

From a pension plan sponsor’s perspective, most pension plans require the administrator or the actuary to adopt a distinct Commuted Value Basis within the formal plan document. A good practice is to actually document such a Basis. An updated document, along with implementation decisions, should be developed prior to February 1, 2005, to ensure a smooth transition. The basic changes prescribed by the new Standard must be reflected, but additional consideration should be given:

In any event, a full review of the calculations and communication of transfer values in the day-to-day administration of the plan should be undertaken. Areas that should be addressed include:

Funding May Be Affected

The funding of the pension plan may be affected by the new Standards. Many plans today are subject to the provincial solvency regulations, which are based on commuted values. Any actuarial valuation with an effective date on or after February 1, 2005, will most likely be impacted by the changes and it is important to be aware of the financial health of the plan. Additional volatility in results can be expected.

The impact of the new Standards of Practice for Determining Pension Commuted Values will be felt by all DB pension plan sponsors and administrators and the sooner that planning for the changes is considered, the smoother the transition will be.

John R. Richards is vice-president of Avalon Actuarial Consulting Inc.

- - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -

Subscribe to Daily News Alerts

Subscribe now to receive industry news delivered to your inbox every business day.

Interactive issue now onlineSubscribe to our magazinePrivate Wealth Online