Later this month, Federal Finance Minister Jim Flaherty will meet with his provincial and territorial counterparts for the country’s finance ministers summit. Likely on the agenda is the pooled registered pension plan (PRPP), a concept introduced by the government in December after the last ministers meeting.
The PRPP is essentially a defined-contribution pension plan targeted at the millions of Canadians who currently have no access to a registered pension. The need is greatest in the private sector. More than 70% of these workers, roughly nine million Canadians, are not part of a workplace plan. Numerous studies contend a growing number of middle-income workers will not be able to replace the benchmark 60% to 70% of their pre-retirement income once they leave the labour force, in large part because of the lack of pension coverage.
“PRPPs will be a major breakthrough for the Canadian pension market,” Flaherty boasted in a press release announcing the proposal. But the reality is, PRPPs are a long way from having any effect on pension coverage. A slew of important details need to be worked out, ranging from who can administer PRPPs to default contribution criteria. More controversially, it has not been decided whether it will be mandatory for employers to make them available. The answers to these questions will dictate whether PRPPs will truly make a difference for Canadians’ retirement savings.
Some pension experts are already inclined to write them off. “The PRPP will potentially give you the illusion of helping to have solved the pension problem, but 10 or 15 years down the road, people will look at their account balances and have this nasty surprise that they won’t have enough money to retire,” says James Pierlot, a pension lawyer and consultant in Toronto. “But I don’t want to sound completely negative about it, because it is a step in the right direction.”
The Conservative government favoured PRPPs over more intrusive proposals for reform, such as expanding the Canada Pension Plan. Now that the Conservatives hold a firm majority in Parliament, it seems that creating PRPPs will take priority over other concepts. The government’s framework contains a number of intriguing elements. Smaller businesses tend to eschew pension plans because of the costs, responsibilities and administrative hassles associated with offering them. But with a PRPP, businesses turn over most of the administrative and fiduciary responsibilities to a third party in the private sector, such as a bank or life insurer. Employers, ever wary about costs, are not required to make contributions to the plan, and the fact that investments are pooled should, in theory, result in low management fees for participants. Portability is also a key component of the plan. If an employee quits, that worker can continue contributing to the old PRPP or transfer assets to a new plan. However, how this would work in reality remains to be seen. Indeed, PRPPs are at least two years away—not soon enough to help those rapidly approaching retirement, but potentially beneficial for younger Canadians.
There are a number of further components PRPPs must include if they are to be successful, according to Keith Ambachtsheer, founder of pension consultants KPA Advisory Services in Toronto. Perhaps the most important is that employers offering PRPPs must auto-enrol workers while allowing them to opt out. Auto-enrolment more or less forces Canadians to save for retirement. We don’t have a good track record of saving voluntarily, and often need to be pushed into doing so. “There’s fairly broad consensus among people who have studied this issue that unless you do that, this is all just smoke and mirrors,” Ambachtsheer says.
In a way, auto-enrolment is a compromise between two clashing pension ideologies: those who support government intervention to avert a widespread retirement income crisis and those who favour personal choice. Auto-enrolment in PRPPs addresses the dearth of pension coverage by relying on people’s inertia not to opt out, while allowing them freedom to choose. But it ignores an important question: will employers offer PRPPs in the first place? Some experts contend employers have to be legislated to make a PRPP available to all workers. If left voluntary, significantly boosting coverage isn’t possible.
“Pensions are purely optional right now,” says Fred Vettese, chief actuary at Morneau Shepell, which provides pension consulting services. “Nothing is stopping any company from teaming up with an insurance company and setting up a DC [defined contribution] pension plan or a group RRSP for their employees. But you still have a major coverage problem in Canada.” The decision may rest with individual provinces and territories. Quebec already unveiled a framework and mandated that employers offer PRPPs.
But forcing employers in this way is a form of government intervention that will not sit well with the private sector. Already, the Canadian Federation of Independent Business, while generally supportive of PRPPs, draws the line at making them mandatory. Though the pension administrator shoulders much of the operational burden, offering a PRPP still creates some additional work and costs for the employer, particularly for small companies. The CFIB argues businesses should be able to make their own decisions as to whether a PRPP makes sense for their employees, and president Catherine Swift expects many of them to do so, if there are clear benefits. “Businesses are looking for any way to attract and keep employees, so if they can do this, they will,” she says.
For individuals, the advantage of PRPPs over RRSPs, in addition to saving by default, is lower fees. Pierlot says he’s heard industry players say PRPPs can be managed with a fee of 1%. “That’s better than mutual fund fees, but it’s still pretty high,” he says. What could improve the PRPP proposal is allowing more than just financial institutions to act as pension administrators. Michael Nobrega, president of the $53-billion Ontario Municipal Employees Retirement System, said in March that pension funds such as his should be able to manage PRPPs. A large number of providers would ensure a competitive market, helping drive down fees.
More important, laws around pensions need to change. Pierlot has long maligned the discrepancy between public- and private-sector pensions. (For example, he’s calculated that a couple in the public sector earning $50,000 each per year will have pension savings totalling between $600,000 and $1.3 million each upon retirement, whereas a couple in the private sector earning the same salary will be left with $122,000 to $245,000 each.) Much of the problem has to do with rules that limit annual contributions to existing retirement vehicles in the private sector and “unnecessarily” tie pension savings to employment tenure and income, he says. PRPPs, as proposed, are subject to the same rules and therefore won’t allow private-sector workers to match what their public counterparts can save.
But though the focus is on PRPPs for the moment, other ideas for pension reform are not entirely dead. Even tinkering with the CPP may get further traction. Back in December, Flaherty promised to raise the issue again at the next finance ministers meeting. For now, the magnitude of future reforms is dependent on how PRPPs perform.