A retirement plan portfolio on top of stock certificates.Kenneth Mellott/Getty Images/iStockphoto
THE SYMPTOMS
Longevity: We are living too long. When Grand Trunk Railway introduced Canada's first workplace pension in 1874, the retirement age was 70 and average life expectancy 55, meaning the average worker was dead for 15 years before they could collect a pension. Today the average Canadian worker is retiring at 63 and life expectancy is almost 80 years. As life expectancy rises, workers' retirement years will soon exceed their career years, meaning they will be spending far more than anticipated.
Investment volatility: In an era of threadbare interest rates, pension funds have shifted most of their assets from bonds to stock market investments to generate returns needed to foot the pension bill. The strategy exposes funds to the increasingly volatile whims of the market. In the wake of the dot.com collapse in 1991 and financial crisis of 2008, the average Canadian pension plan in Canada is about 12 per cent short of assets needed to pay their pension bills.
Lax pension management: Bonds currently pay investors a real rate of about 1 per cent, but a large number of pension plans continue to project they will earn annual returns of 4 per cent. Many funds also rely on outdated mortality tables, which means they are assuming retirees will die sooner than expected. Added up, these practices mean funds have not saved enough for plan members.
Demographics: We are on the verge of the largest workplace exodus in history with more than seven million workers, 42 per cent of the Canadian work force, set to retire over the next 20 years. Many have not saved enough for retirement. For those who have pension plans, the exodus means there may be as many workers as there are retirees, a ratio that may leave younger workers with a much smaller pension pie than their predecessors.
Inflexible pension plans: When defined benefit pension plans gained popularity after the Second World War, they were sold as guarantees. Under these DB plans, workers and employers pay set amounts into a fund that promises a fixed pension cheque. As a result of rising longevity, investment uncertainty and demographic pressures, guarantees are increasingly unsustainable.
Pension inequity: Only 40 per cent of Canadian workers have pensions. The remaining majority must choose from a disappointing menu of registered retirement savings plans and other investment options to save for retirement. Canadians have such meagre savings that an estimated 30 per cent of modest- to high-income earners will experience a significant drop in their standard of living.
THE CURES
Shared-risk pensions: Introduced by the Dutch in the mid-2000s and adopted by New Brunswick and Rhode Island, shared-risk plans are based on a model of flexible benefits that can be paid or temporarily suspended depending on the health of the pension plan. If demographic and investment setbacks trigger pension fund short falls, plans suspend such perks as pension cost-of-living adjustments until a surplus is restored.
Later Retirements: Remember Freedom 55? It's history. Federal laws and some provincial reforms are pushing the retirement age to 67. The longer people live, the greater the chance of further retirement delays to ensure enough is saved to keep retirees above the poverty line.
Stricter pension management: Reforms in New Brunswick, the Netherlands and other jurisdictions have made it much more difficult for pension fund managers to overexaggerate investment forecasts and underestimate mortality rates. Under the shared-risk model, funds are also subject to much stricter solvency rules that require plan sponsors to quickly restore funding shortfalls.
Greater pension equity: There is a large menu of reforms that have been proposed by leading experts and provincial task forces to address the needs of Canadian workers without pensions. One is to expand the Canada Pension Plan for the most vulnerable, workers without pensions who earn between $30,000 to $100,000. This group stands to suffer significant income drops in retirement. Other proposals include pooling the savings of defined contribution plans within organizations or under independent supervision to give plans more leverage to lower fees and shield members from longevity and investment risks. Quebec recently proposed a supplemental and mandatory pension plan that would not start paying benefits until the age of 75. The plan is designed to bridge the gap for retirees that are expected to outlive their savings.